By Bjarke Smith-Meyer · May 16, 2024
There are four “sin stocks” that most European lenders won’t touch: Gambling, pornography, tobacco and weapons.
But morality is a luxury many cash-strapped EU finance ministers can no longer afford as Russia pursues its war of attrition in Ukraine.
Starved of weapons, policymakers across the bloc and in Brussels are trying to lure banks and investors into Europe’s underfunded defense industry with the help of their own morality laundromat: The European Investment Bank.
A key part of the challenge is softening the stigma around weapons for financiers
who seek out investments that promote the environment, social causes and good
corporate governance, known as ESG. For the most part, that means convincing ethical investors that sustainability is intimately tied to security and defense.
Mobilizing EIB funding for so-called “dual-use” hardware — resources largely designed for civilian use but which can also be used for military purposes, such as drones — is the most obvious way to ease them in.
As it stands, an existing dual-use principle means military-oriented companies can only secure EIB loans if more than 50 percent of their expected revenues come from civilian use. But finance ministers, who make up the EIB’s board, are keen to drastically lower that threshold when they meet on June 21 in a formal EU bid to open up funding to many more companies whose main client is the military.
For now, even the European Commission — traditionally reluctant to finance military projects — has been won over by the idea, which bodes well for extending the pitch more widely.
That contrasts markedly with the mood even a decade ago when France tried to include the defense sector in the bloc’s InvestEU program, which aimed to mobilize €372 billion of public and private investment.
“The big objective we had … was to include the defense industry within the objectives of the Juncker Plan, the first version of InvestEU,” Servane Metzger-Corrigounow, a former member of the French government’s authority for public investments at the time, told POLITICO.
“We got a big no from the Commission and the EIB,” said Metzger-Corrigounow, who is now an executive at private equity firm Ring Capital.
Russia’s aggression, unsurprisingly, has driven much of the changing attitude in Brussels, where policymakers have been drumming up support for a common EU defense strategy to deter Moscow from rolling tanks further into European territory.
Weaponization blowback?
But getting politicians aboard won’t be enough. If the plan is to have any impact on security, big financial institutions and investors will have to go for it too.
The EU trade chief, Valdis Dombrovskis, for one, is optimistic that they will. “Greater EIB investment in this area will also send a positive signal to the markets,” he told an Ecofin meeting in April, when asked whether the goal was to convince banks to follow the EIB into the defense industry.
Belgium’s Finance Minister Vincent Van Peteghem was blunter. “Short answer, yes.”
Some EU capitals, such as non-NATO Vienna, nonetheless, worry that changing the EIB’s principles will undermine its ESG rating, putting investors off the bank’s bonds. That could make it harder for the EIB to raise money as a whole, undermining its wider mission of developing economies across the bloc.
But that’s a risk EIB President Nadia Calviño has dismissed for now, in large part due to its formidable footprint in the market. The lender has often prided itself as the EU’s climate bank.
The EIB is often cited as the largest development bank in the world and has invested over a trillion euros since it set up shop in 1958. Last year alone, the bank signed €88 billion in deals and plans to extend its lending limits even more.
But there’s also the fact that even its chunky lending profile might not be enough to cover Europe’s defense deficit — irrespective of whether the dual-use amendments go down a treat with markets or not.
The U.S. spent $880 billion in 2022 alone — more than China, Germany, France, India, Japan, Russia, Saudi Arabia and the U.K. spent on defense in the same period combined. The numbers highlight the scale of the funding gap facing Europe in the event a Donald Trump presidency sees Washington, still the EU’s key defense ally, pull its military back from the Continent.
While policymakers are still debating where and how such funding shortfalls might be covered, private capital will inevitably have to play a part in the solution.
To that end, the Commission hosted a private workshop in December for banks and money managers on “facilitating access to finance for the EU defense industry” with the hope that European lenders may be persuaded to follow the EIB’s example to get the wheels of military production turning.
War is peace
The Commission has since also published a policy document that stated there’s no EU rule that “impedes private investment in the defence industry.” If anything, “the defence industry enhances sustainability, given its contribution to resilience, security and peace,” the document said.
Not that such rhetoric will necessarily change minds outside of Brussels, according to Hortense Bioy, the global director of sustainability research for Morningstar, a Chicago-based company that provides investors with analysis. The reputational risks are just too big to price in — even if the EIB gets involved.
“If you have an institution, like the EIB, that invests in this type of sector, that could give them some kind of comfort,” Bioy said. But “it might be more difficult than before to get financing because now tend to prioritize green projects and want to avoid any controversies.”
Credit rating services S&P Global, Moody’s, and Fitch Ratings, the gatekeepers of ESG scores, all declined to comment on the EIB’s looming decision.
