EU's Updated Fiscal Regulations: Striking a Balance between Budget Management and Green-Digital Advancements
European Union Shifts Focus Towards Green and Digital Transition
The European Union (EU) is making significant strides towards fostering a green and digital transition, despite facing challenges in expanding fiscal space for large-scale additional spending.
The new EU fiscal framework, effective from 2024, enforces budgetary discipline while restructuring and prioritizing EU budget allocations to enable targeted, flexible, and large-scale funding for green and digital transitions.
One potential solution to expand fiscal space is the European Commission's proposal to issue bonds to raise capital for a new EU investment fund. This fund would be specifically targeted at supporting the green and digital transition, bypassing national borrowing constraints and channeling funds towards strategic industrial and green/digital projects.
The fiscal framework emphasizes budget balance and prudence, which restricts expansive national borrowing and spending, limiting large fiscal deficits that could boost green/digital investments directly at the Member State level. However, the EU integrates climate action into all budget stages, requiring Member States to allocate significant shares of existing multiannual funding frameworks for climate/environment-related investments.
The new EU Multiannual Financial Framework (MFF) 2028–2034 proposes almost €2 trillion, with enhanced flexibility, easier access, and a focus on competitiveness, clean and smart technologies, and supply chain security. This budget shift aids green and digital ambitions by channeling resources to innovation and infrastructure across national and regional partnership plans.
A new European Competitiveness Fund (ECF) consolidates 12 EU programs into four policy windows, including Clean Transition/Industrial Decarbonization and Digital Leadership. It accounts for about 30% of the total budget, up from 18% in previous frameworks, signaling a strong shift toward strategic EU-level investments to override constrained fiscal space at national levels.
Despite these measures, there remains a significant funding gap. Estimates indicate a shortfall of over €100 billion annually for green, digital, and defense transitions under current tools and fiscal rules. To address this, policymakers must identify new long-term financing solutions for the green and digital transition within the context of the new EU fiscal rules.
Strategies to expand fiscal space for green and digital transition within new regulations include prioritizing and mainstreaming green/digital spending across all budgetary phases, leveraging fiscal space in fiscally healthy Member States, utilizing EU-level instruments to pool resources, innovating in financing mechanisms, increasing flexibility in budget implementation, fiscal reforms and new own resources, and making the next MFF more flexible.
Examples of projects that could be funded by the EU investment fund include a European high-speed train network, an integrated electricity grid for renewable energy transmission, digital infrastructure projects, and cross-border digital identification systems.
It's important to note that the new EU fiscal framework does not include broad exemptions for public investment at the national level and does not explicitly consider government net worth. If a member state breaches either the 60% debt or 3% deficit threshold, the European Commission will propose a "reference trajectory" to ensure the public debt ratio follows a downward path.
The European Commission has proposed making the next MFF more flexible, moving away from fixed programmes towards a general budget pool. The new regulations require multi-year budget plans, spanning a minimum of four years, to be negotiated between the European Commission and national governments, informed by a Debt Sustainability Analysis (DSA).
An article published by the International Monetary Fund suggests that nations with stronger government net worth tend to experience greater economic stability and more robust macroeconomic development. Member states can commit to a package of investment and reform measures, potentially extending the fiscal adjustment period from 4 to a maximum of 7 years, by demonstrating that the planned measures are conducive to growth and compatible with maintaining sustainable debt levels.
However, the combination of increased defence spending and the pressure for fiscal consolidation on other spending categories from 2025 onwards may impede national governments' ability to boost public investment in the twin transition. The multi-year budget plans submitted by EU member states to the European Commission indicate that the nationally financed public investment rate is projected to decline in more than a third of countries.
In summary, the European Union is making significant strides towards a green and digital transition, despite facing challenges in expanding fiscal space for large-scale additional spending. The new EU fiscal framework prioritizes a medium-term perspective on public finances, shifting away from an annual assessment and concentrating on limiting the growth of government expenditures. Policymakers must identify new long-term financing solutions for the green and digital transition within the context of the new EU fiscal rules.
Businesses across Europe are preparing for significant digital transformations as the EU prioritizes funding for green and digital transitions. In light of financial constraints, the European Commission proposes issuing bonds to create a new EU investment fund, aiming to fill the funding gap and support strategic industrial and digital projects.
