Over the past decade, few financial institutions have done more to develop EU capital markets than the European Investment Bank (EIB). Owned by the bloc’s 28-member states, the EIB is the EU’s long-term lending institution, which is charged with channelling funding, expertise and advisory services to projects that contribute to EU policy objectives.
The EIB goes about its important work with little fanfare. Unbeknown to many, it is now the world’s biggest multilateral lender, having signed loans worth €76bn in 2016 alone. It is also the key implementer of almost every initiative to transform Europe’s financial markets post-crisis. The EIB has been a guiding hand in everything from project bonds to green finance, public-private partnerships to capital markets union. Without it, these concepts would be delivering less than they do today.
Speaking with EIB president Werner Hoyer, it is clear the bank is not resting on its laurels. His enthusiasm, coupled with a willingness to point out the EU’s shortcomings to date, shows the EIB is forging ahead to find new ways of supporting more inclusive and stable growth across the EU.
EFSI success
The EIB has been the lynchpin of the European Commission’s (EC's) ambitious investment plan for Europe. The most influential pillar of this initiative – dubbed the ‘Juncker plan’ after its proponent, EC president Jean-Claude Juncker – is the European Fund for Strategic Investments (EFSI). This is a €21bn facility, comprising €16bn of EU budget guarantees and a further €5bn capital contribution from the EIB.
Under the EIB’s management, the EFSI is buying subordinated tranches of strategic but risky projects, which makes the senior debt more attractive to private investors. On the premise that €1 of EFSI protection should generate €15 of private investment, it is intended to unleash €315bn of investment in three years.
Figures to date suggest the plan is working. Over its first two years, the EFSI has mobilised more than 60% of its target investment, which has prompted the EC to propose extending the EFSI’s end date to 2020 and lifting the EU budget and EIB contributions to increase the fund’s capacity to €500bn.
The EFSI’s success can also be measured by the EIB’s ability to provide more funding to higher risk projects. The Banker understands that, in the past, the EIB could commit about €5bn annually to these types of projects; but with the help of the Juncker guarantee facility, that figure is now between €20bn and €25bn.
EU budget revolution
For Mr Hoyer, the EFSI is also significant for its innovative use of the EU budget. Allocating parts of the budget as guarantees – which encourages private money to flow into areas historically funded by the public purse – represents a game-changing philosophical shift.
It is an approach Mr Hoyer has supported for some time. “Since my first European Council meetings as a minister in the early 1990s, I’ve dreamt that the EU would arrive at the point where it made better use of its budget,” he says. “That we would somehow break the 'subsidies and grant' mentality, and instead use part of the budget in a way that it was multiplied, with the idea of achieving a higher impact.”
With the Juncker plan, this is finally taking place, he adds, saying: “This is the start of a paradigm shift in the use of the EU budget.” In light of the EFSI’s success, he expects other parts of the EU budget to be used in a similar way.
Infrastructure asset class
The EIB has also used credit enhancements to boost infrastructure investment. Back in 2012, together with the EC it launched the Europe Project Bond 2020 initiative. Under this programme, the EIB buys the subordinated tranche of infrastructure projects (or provides a contingent credit line), which boosts the credit quality of the senior tranche to the point it becomes attractive to institutional investors.
Higher capital charges have restricted banks’ ability to offer project sponsors long-term loans on the same terms as they did pre-crisis. Capital markets offer an alternative, but institutional investors have historically been wary of the long tenors, construction risk and low investment-grade ratings typically associated with greenfield project debt.
Yet five years after the EIB and EC initiative was launched, project bonds have become part of the EIB’s normal funding toolkit, and capital markets have become a mainstream form of finance for project promoters. Despite this progress, Mr Hoyer says some stakeholders are resistant to the idea of project bonds.
“In all EU countries I still meet politicians who, due to their experiences during the crisis, are sceptical about financial instruments. They want everything to be budget-based,” he says. “But they are coming to the limits of their budgets, and the terrible infrastructure in parts of the EU is presenting huge obstacles to improving productivity and competitiveness.”
Mr Hoyer laments hurdles such as this preventing the instrument from reaching its full potential, and asserts the EIB’s willingness to convince legislators and regulators that project bonds are needed to help fill the EU infrastructure gap. Indeed, it seems that the biggest obstacle is education.
Mr Hoyer is part of the growing chorus of policy-makers and bankers who insist that the fundamental bottleneck to infrastructure development is not a lack of funding, but rather the lack of well-structured, bankable projects. Practical guidelines for sponsors and public sector authorities, along with more standardised instruments, would be of invaluable assistance.
Accordingly, Mr Hoyer is calling for a bigger effort to cement project bonds as a conventional form of infrastructure finance. Time is of the essence. “This has been discussed for the entire five-and-a-half years I’ve been at the EIB, and probably long before, but I don’t see enough progress,” he says. “And I’m getting nervous – as, if we don’t move quickly to create infrastructure as an asset class, one day people will accuse us of having missed the opportunities presented by the low-interest-rate period.”
A green pioneer
Unless infrastructure becomes a recognised asset class in the next few years, he believes governments will struggle to meet their infrastructure objectives. The challenge has become even bigger of late, due to commitments under global accords such as the Paris Climate Agreement (which aims to limit global warming to less than two degrees Celsius) and UN Sustainable Development Goals. These require huge amounts of sustainable development that cannot be funded by government budgets alone.
Once again, the EIB has created important precedents for efficient funding of these projects. In 2007 it issued the world’s first climate-aligned bond. A decade later, it has mushroomed into a circa-$700bn global market, which is being tapped by everyone from sovereigns to mid-sized corporates. “When we did that first deal 10 years ago, we never thought we’d be in this situation today where we have a market of this size,” says Mr Hoyer. “The market’s development is, if you will, our return on equity.”
Nonetheless, the EIB’s work in this space is far from done. In late 2015 it sold an innovative sustainable structured product called Tera Neva, the proceeds from which are channelled into renewable energy projects. Looking ahead, the bank’s work as an adviser and creator of market practices – rather than simply being a market-opening issuer – is becoming more important. It is also widening its focus from ‘green’ to broader environmental, social and corporate governance objectives.
“I wouldn’t rule out one day seeing instruments that cover the bigger corporate social responsibility objectives: things such as the water sector, sustainable transport, reforestation and biodiversity,” says Mr Hoyer.
One member down
Mr Hoyer does not hide his disappointment over the outcome of the UK's Brexit referendum, and its ramifications for both the UK and the EU. The EIB’s portfolio of projects in the UK amounts to some €50bn, and the country has become a strong partner in the EIB’s pursuit of climate-friendly projects.
There is also the wrinkle of the UK government’s large equity stake in the EIB. Unwinding this is an unprecedented, and delicate, situation. “The statutes of the bank are pretty clear; the UK will cease to be a shareholder in 2019,” he says. “We are not negotiating directly on this, but we are part of [the EU’s Brexit negotiator] Michel Barnier’s team.”
The UK holds just over 16% of the EIB’s €243bn in subscribed capital, a small proportion of which is paid in, with the rest being a contingent liability. There has been much speculation about how the latter will be dealt with, as it is callable capital that has been pledged by the UK to the EIB. “At the end of the day, unravelling this will be a difficult process, and one that is part of the overall package that the EU negotiates,” adds Mr Hoyer.
Against a backdrop of the divorce of the UK and the EU, and the rise of anti-EU sentiment in some other member states, Mr Hoyer is blunt about the bloc’s shortcomings – but he is also sanguine about its future.
“The EU, which is in crisis, has not fully developed to its potential. And in any field – be it politics, business, culture – it has not been good enough in telling the European story. But all in all, my European convictions have not suffered a bit,” he says. “And I believe that after the horror year of 2016, with the Brexit decision and the creation of uncertainty in the US, we will see Europe bounce back in 2017.”
