Euro stimulus has broad implications for investors

This document is directed at investment professionals and qualified investors (as defined by MiFID/FCA regulations).

The unprecedented levels of stimulus launched worldwide to combat the recession triggered by economic shutdowns and stay-at-home orders to contain the COVID-19 pandemic have garnered much attention from investors and the media.

The impact from the more than $11 trillion in fiscal stimulus and massive amounts of central bank liquidity will aid many suffering economies and people. Among all the programs launched, one of the most interesting is the European Union’s (EU) 750-billion euro Recovery Fund, part of a broader “Next Generation EU” recovery effort. This Next Generation stimulus package marks an inflection point for the region and is likely to have far ranging consequences, including:

• Greater unity among EU countries
• Narrowing the valuation discount between European equities and other developed market equities
• Advancing initiatives outlined in the Green Deal
• Accelerating digitization across the EU

Stimulus Proposal Passes Important Hurdles
After intense negotiations, the 27 EU member states in late July agreed to a stimulus plan of 750 billion euros or $875 billion, which is equivalent to approximately 4% of 2019 EU gross domestic product (GDP). A key difference from previous stimulus initiatives is that funding will be provided to countries as a mix of grants (390 billion euros) and loans (360 billion euros) rather than just loans. The recovery fund will be financed through bonds issued by the European Commission with maturities of up to 30 years and backed by future contributions of EU members. The majority of the grants will be distributed from 2021 to 2023 to the member states depending on their specific national recovery plans. Of the 360 billion euros in loans, countries are expected to begin repayment in 2027 based on the amount received, with the entire debt settled by 2058. The stimulus plan calls for the 390 billion euros of grants to be repaid initially by the EU from funds received through a new tax on plastic waste, with a future focus on green and digital taxes.

Cash will be directed to countries based on need rather than contributions made to the EU budget, thereby supporting countries that were the hardest hit economically by the pandemic and also having high debt levels and limited financial flexibility. Under the current plan, countries including Italy, Spain, Portugal and Greece will be among the largest beneficiaries and will be able to access funds financed by the European Commission’s triple A rating instead of their own lower ratings.