How do the new EU fiscal rules protect public investment?
Attempts to reduce deficits and debt often lead to public investment cuts, as politicians prioritise vote maximisation over long-term societal benefits. When fiscal rules treat investment in the same way as current spending, without special provisions, this problem worsens.
In a paper published this week, we evaluate the European Union’s new fiscal framework. The rules, which came into effect in April 2024, do not include specific investment provisions – despite our previous call for a ‘fiscally responsible public investment rule’.
Instead, the framework incentivises public investment by offering an option to extend the fiscal adjustment period (during which a country’s budget deficit is reduced through expenditure cuts and tax increases) from four to seven years, allowing a more gradual adjustment if investment levels are maintained and other conditions are met.
The new framework was first tested when 22 countries revealed their medium-term fiscal-structural plans. Alarmingly, over a third of countries planned to cut nationally financed public investment in the next four years, and greater fiscal adjustments tended to correlate with deeper investment cuts. These plans reflect national intentions, but actual reductions could be even more severe once tough budget choices arise.
While two-thirds of EU countries intend to maintain or increase public investment, the overall increase is less than 0.2% of GDP – which is far from sufficient to narrow Europe’s investment gap. While the bulk of this gap should be addressed through private investment, public investment must also play a critical role.
Commission president Ursula von der Leyen has suggested that an escape clause in the fiscal framework could allow more defence spending. While better than nothing, this would permit, but not require, increased defence spending, and would not address broader needs like climate action.
To meet long-term EU challenges and secure public investment, new solutions are needed, such as a common EU fund financed by joint borrowing after the expiration of NextGenerationEU.
The Why Axis is a weekly newsletter distributed by Bruegel, bringing you the latest research on European economic policy.
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