Increased defence spending by European countries, which is being discussed by NATO members at The Hague this week, is likely to impact households, however the impact will be lessened if countries work more closely together.
That’s according to ING chief economist Marieke Blom, who has published an opinion piece examining the effect of increased European defence spending on the region’s finances.
According to Blom, while increased European defence spending could have ‘a potential economic upside’, the import costs to support defence spending is likely to curb these positives.
‘We expect additional spending to be more oriented towards equipment, where underinvestment has been significant,’ she wrote. ‘The defence industry is small; in 2024, it made up 0.5% of industrial production. It will take time for it to scale up, which limits the economic upside as far as manufacturing is concerned.
‘The positive GDP effect is higher if the additional spending is debt-financed, which we expect to be the case for the first couple of years. This approach makes sense, as budget cuts or tax increases are usually politically painful, while the high import share would risk switching domestic consumption for imports, denting the economy.’
Household burden
As she notes, temporary debt-funded boosts are likely to give way to the long-term need for budget offsets, either through higher taxes or cuts to social spending. Either way, the burden is likely to fall on households, either due to reduced public services or diminished disposable income.
‘European countries currently spend about 2% of their GDP on defence,’ Blom noted. ‘That will go to somewhere between 3.5% and 5% of GDP. It’s a bit like your insurance premium doubling in price. Or, to be more precise, the US is no longer willing to pick up a significant part of the bill and is forcing Europe to pay up. European governments must spend the additional 1.5% (or more) of GDP.
‘This implies one of two options: it cannot be spent on healthcare, social security or education and comes in the form of cuts to these areas. Alternatively, it can come in the form of higher taxation, so European consumers will be spending less on other stuff. In practice, it will probably be a mix of the two. But make no mistake, European households will pay for it.’
Closer collaboration
At the same time, Blom argues that closer European collaboration could reduce the cost impact, with common procurement strategies potentially worth up to €57 billion annually. In addition, joint borrowing could reduce financing costs, particularly in the initial debt-financed phase.
‘The combined effect of common procurement, common borrowing, European production, and higher R&D spending can offset a significant part of the costs for Europeans,’ Blom noted. ‘In fact, this is exactly what the European Commission is proposing.’ Read more here.
