Fabio Panetta, ECB, said that fiscal union would boost EU defense spending.

According to a senior banker, European defence spending could be more effective if the EU had a permanent ability to raise its debt and provided common funding for investment within the bloc.

Fabio Panetta is a member of the board at the European Central Bank. He said that there were “strong economic arguments” to centralise funding for EU defense, which, in terms of efficiency, “lags behind other global players”, as well as other important areas, such as green power and digitalisation.

Panetta’s comments, which reflect the growing demand for the EU, to convert the €800bn recovery fund launched in the wake of the coronavirus outbreak, into a permanent fiscal facility.

In a Wednesday speech, Panetta said that “moving from fiscal governance into fiscal union requires permanent central fiscal capability.” This is needed to complement the national fiscal policies, and reach the correct fiscal stance in the euro zone.

Some ECB officials have long called that the EU issue a large pool of debt, jointly guaranteed, to rival German Bunds. They believe this would reduce the EU’s vulnerability to sovereign-debt crises.

The idea is controversial among conservative policymakers from northern Europe, who believe that the NextGenerationEU fund should be used only as a temporary tool to combat crises and are concerned about a permanent change in the funding model encouraging fiscal profligacy by heavily indebted nations.

Panetta stated that a permanent EU fiscal capability would “ensure investment is not compromised in economic downturns. This will prevent procyclicality, and support capital accumulation without sacrificing the future prosperity”.

According to him, ECB research showed that EU military expenditure is less efficient than other countries because “the fragmentation of the military acquisition system and the fact EU countries spend relative more on personnel than R&D”

After Russia invaded Ukraine, 22 EU member countries who are also Nato members committed to increasing defence spending in order to reach the alliance’s 2 percent target for gross domestic product – a goal many of them had failed to meet for years.

The EU is examining reforms of its fiscal rules, under the Stability and Growth Pact which governs borrowing and national spending. Since the pandemic of 2020, these rules have been suspended. They are expected to be reinstated next year.

Panetta warned that European governments may curtail their investments in areas like defence, renewable energies, digitalisation, and immigration policies as they cut back on spending in order to meet these rules. These rules aim to limit budget deficits to 3% of GDP and reduce national debt to 60% of GDP.

He said that without a permanent fiscal capacity with borrowing capability, it would be impossible to balance fiscal sustainability, stabilise public finances, and address Europe’s significant investment needs.

His comments are similar to those made by Mario Draghi, former ECB President and ex-prime Minister of Italy. He has been appointed as a Special Advisor for the EU in order to prepare a Report on European Competitiveness.

Draghi published an article in The Economist in this month, arguing that common challenges facing Europe – including the pandemic and Russia’s invasion in Ukraine – opened the way to a deeper fiscal union within the EU.

He wrote that “federal borrowing and expenditure would lead to greater efficiencies and more fiscal room, as aggregate lending costs would be lower.” “National fiscal policy could then be focused more on debt reduction and building buffers for tough times.”