The Franco-German proposal for a €500bn EU recovery fund has been an important development building on €540bn of measures agreed by the Eurogroup and the support measures announced by the ECB. Angela Merkel acknowledged as much stating: “There is a danger that the cohesion of the EU could be endangered by the economic crisis deriving from the pandemic,” adding that “This needs an extraordinary and one-off show of strength by Germany and France”.
The proposed fund targets a more unified European approach in the sense that it talks about disbursements being made in the form of grants to the most affected sectors and regions. The grants will form part of “budgetary expenditure”. The proposed fund would be financed by allowing the European Commission to borrow on markets on behalf of the EU working within the MFF, the multiannual financial framework (i.e. the budget). Macron commented that "this is a very deep transformation and that's what the European Union and the single market needed to remain coherent. It's what the euro zone needs to remain united."
Even though the proposed fund is envisaged as a temporary crisis measure, agreement has still to be reached amongst the EU27 which is likely to be challenging. The greatest disagreement is expected in areas such as providing the funding in the form of grants, rather than loans. The Commission’s own proposal is due to be released on May 27 suggesting that France and Germany have taken the initiative to try and encourage member states to work towards delivering a credible policy initiative. European Commission President, Ursula von der Leyen, stated it: “rightly puts the emphasis on the need to work on a solution with the European budget at its core. This goes in the direction of the proposal the Commission is working on”.
The news has been viewed positively by European bond markets with spreads of Italian, Spanish and Portuguese bonds over bunds tightening. For example, at the time of writing, the BTP 10-year yields ~1.67% and spread over bunds has tightened to ~213bps down from the April wide of 263bps. However, an element of caution is likely warranted given the expected resistance from a number of member states.