The European Commission (the executive arm of the European Union) last Tuesday, June 15, 2021, in its first transaction of the “NextGenerationEU” fund, raised €20 billion via a ten-year bond maturing July 4, 2031 to finance Europe’s recovery from the coronavirus crisis and its aftermath.
This is the largest single EU institutional bond issue in Europe, the largest single institutional transaction, and the largest amount the EU has ever raised in a single transaction.
The “NextGenerationEU” (NGEU) fund is a European Union recovery package to support member states affected by the COVID-19 pandemic. With the approval of the European Council on July 21, 2020, the fund is worth €750 billion.
There was great interest in the issuance of European Union bonds
The bond attracted very strong interest from investors across Europe and around the world, thanks to which the European Commission (EC) obtained very favorable pricing conditions, similar to the repeatedly successful issuances of the SURE program “Support to mitigate Unemployment Risks in an Emergency”, also supporting against the effects of Covid.
European Commission President Ursula von der Leyen said in a statement, “Today is a truly historic day for our European Union. We have successfully conducted the first NextGenerationEU funding operation. As a strong Union, we are raising money together on the markets and investing in a common recovery from this crisis. It is an investment in our single market. And even more importantly, it is an investment in the future of Europe’s next generations as they face the challenges of digitalization and climate change. The money can now start flowing to help reshape our continent, to build a greener, more digital and more resilient Europe. I will now visit all Member States, to see the impact of NextGenerationEU on the ground.”
EU Commissioner for Budget and Administration, Johannes Hahn, said, “Today, we have reached an important milestone in the implementation of NextGenerationEU. After laying all the foundations at record speed, we have today successfully conducted the first lending operation under the Recovery Plan. This is just the first step of a long journey, bringing to the EU economy more than €800 billion in today’s prices. NextGenerationEU has now become a reality and is set to drive our collective recovery from the pandemic, putting Europe on a green, digital and resilient path.”
The funds will now be used for the first NextGenerationEU payments under the Recovery and Resilience Facility (RRF) and various EU budget programs.
By the end of 2021, the Commission expects to raise around €80 billion in debt, to be supplemented by short-term EU-Bills, according to the financing plan published in June 2021.
The exact amount of both EU-Bonds and EU-Bills will depend on the precise financing needs and the Commission will review its initial assessment in autumn 2021.
In this way, the Commission will be able to finance, over the second half of the year, all expected grants and loans to Member States related to the Recovery and Resilience Mechanism, as well as cover the needs of EU policies receiving NextGenerationEU funding.
What is the European Union’s NextGenerationEU Fund?
NextGenerationEU is a temporary recovery instrument of around €800 billion in today’s prices to support Europe’s recovery from the coronavirus pandemic and help build a greener, more digital and more resilient Europe.
To finance NextGenerationEU, the European Commission – on behalf of the EU – will raise about €800 billion on the capital markets until the end of 2026. 407.5 billion available for grants (related to the RRF and other EU budget programs); €386 billion for loans. This will translate into lending volumes averaging about €150 billion per year.
Given the volumes, frequency and complexity of lending operations taking place in the near future, the Commission will follow the best practices used by large and frequent debt issuers and implement a diversified financing strategy.
This strategy features a diverse range of instruments and techniques, which goes beyond the consecutive approach that the Commission has used so far to borrow from the markets, including under the SURE program.
Over the past 40 years, the European Commission has managed several loan programs to support EU Member States and non-EU countries. All these lending operations have been financed on a “back-to-back basis,” mainly through the issuance of syndicated bonds.
Why is this first major joint debt issue of the European Union important?
This was the first major mutualization of debt in the European Union. In other words, it was the first time that the European Union issued debt in a joint way to finance its budget, rather than through individual debt issuance by its member states.
Many consider this milestone to be a “Hamiltonian moment” for Europe. But what does this mean?
The phrase evokes an analogy with a bill, passed by the American Congress in 1790, that federalized the debts incurred by the rebel colonies to finance the war of independence against Britain.
Thus, several analysts have said that the deal struck between German Chancellor Angela Merkel and French President Emmanuel Macron may one day be remembered as the European Union’s “Hamiltonian moment,” comparable to the 1790 agreement between Alexander Hamilton and Thomas Jefferson on public borrowing.”
Does it mean that the European Union will become a country?
Not necessarily, but a joint debt issue among EU countries would be a great first step towards the creation of an eventual European federation, just as the federalization of the debt of the American colonies was towards the eventual creation of the United States of America.
It is not yet clear whether we can anticipate a fundamental shift in the policy of the European Union to have its own budget permanently originated via joint debt, and not by financial distribution from its member states. If this happens, the EU would probably have much more freedom to invest its budget the way it wants and with less interference from the 27 member states.
Can this joint European Union debt reduce the cost of your overall debt?
While there is great demand and low cost for debt issues from Germany, for example, the same cannot be said for Greece. This is because even though both countries are members of the EU, the health of their economies is very different.
But with debt issues guaranteed by the European Union and the European Central Bank as a whole, the demand for these bonds will be much higher, as already seen in this first issue, which also leads to a much lower cost (note coupon or debt return).
If these joint issues become a reality beyond this one-off debt for the NextGenerationEU fund, the European Union will have the financial capacity to raise more, at a lower cost, and thus be able to invest more the union as a whole.
Can a new European bond compete with American bonds?
Today in the world, the safest bonds in the world are American bonds. That is, if any public, institutional, or individual investor wants total security in their investments, they will look to buy U.S. bonds because there are not many comparable options for bonds with such security.
However, with these new bonds guaranteed by the European Union as a whole, there will be another very safe investment option, which could compete with the US for global funding in search of safety.
If this were to happen on a large scale, it might even occur that the United States would need to offer a higher return on its bonds to increase its attractiveness, which would eventually make American debt as a whole more expensive.
Only time will tell whether new joint EU issues will become the rule or an exception.
Technical section on the largest joint European Union debt issue
The new 10-year bond carries a 0% coupon and came with a reoffer yield of 0.086%, providing a -2 bps spread to average swaps, which is equivalent to 32.3 bps over the 0.00% Bund due 02/2031 .
The final order book exceeded €142 billion, meaning that the bond was oversubscribed seven times. In other words, there was much greater demand for the bonds than there was supply.
The joint lead partners in the issue were BNP Paribas, DZ BANK, HSBC, IMI-Intesa Sanpaolo, and Morgan Stanley. The co-leaders were Danske Bank and Santander.
Demand was dominated by fund managers (37%) and bank treasuries (25%), followed by central banks / official institutions (23%). By region, 87% of the business was distributed to European investors, 10% to Asian investors, and 3% to investors from the Americas, Middle East, and Africa.
Summary of the geographical distribution of EU securities:
Germany – 13
France – 10%.
United Kingdom – 24
Benelux – 15%.
Nordics – 10% France – 13
Italy – 5%.
Other Europe – 10%
Asia – 10% Others
Americas – 3%.
Total – 100% of the total
Summary of the type of investor in European Union securities:
Central Banks / Official Institutions – 23,0%
Fund Managers – 37,0%
Insurance and Pension Funds – 12,0%
Banks – 2,0%
Hedge Funds – 1.0%
Total – 100