Recent Public Investment Trends in Europe

After a strong decline in public investment activities following the global financial crisis and subsequent sovereign debt crisis, public investment has started to gradually recover in recent years (Figure 1). After hitting its lowest level in two decades in 2016 (at 2.7% of GDP), government investment increased slightly in 2017 (to 2.8%) and 2018 (2.9%). Despite the reversal of the negative trend, public investment remains well below its long-term average of 3.1% of GDP between 1995 and 2017.

Fig. 1 Public Investment by country group (1995–2020)

Note: this chart reports Gross Fixed Capital Formation of the General Government as % of GDP.

Forecast for 2019 and 2020. Data are missing for Croatia in 1995–2000. Source of data: Eurostat, AMECO. Figure created by the authors.

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

% GDP

EU-28 Western and Northern Europe Cohesion Southern Europe

1. Europe Needs More Public Investment 19

The recent increase in public investment was driven by investment activities in the Cohesion countries. In this group, gross fixed capital formation of the public sector increased from 3.6% of GDP to 4.3%. While positive, at least part of the increase reflects a mere rebound effect after a strong decline in investment activities in 2016 due to the start of a new programming period of European Structural and Investment Funds.

Public investment in other parts of Europe remained broadly unchanged from their 2016 levels and well below their long-term averages.

From a cross-country perspective, investment increased markedly in Cyprus, Hungary, Latvia, Poland, Croatia and Bulgaria. The increase in Cyprus was, however, largely due to one-off accounting measures.⁴ In Greece public investment continued to decline. Italy and the Netherlands also recorded declines in public investment, albeit more modest ones than in Greece, putting their investment levels at their lowest in twenty-five years, relative to GDP.

Fig. 2 Public Investment in 2018 by Member States (1995–2018)

Note: this chart reports Gross Fixed Capital Formation of the General Government as % of GDP.

Vertical black lines report the range of values observed in 1995–2018. Thresholds for ‘in line’

with long-term average: +/- 0.25% from average. Data are missing for Croatia in 1995–2000.

Source of data: AMECO. Figure created by authors.

4 Cyprus registered the strongest increase in public investment in Europe. However, the strong increase was largely due to one-off accounting measures.

0 1 2 3 4 5 6 7 8

CY HU LV PL SE FI DK UK EE BE DE AT LU SK LT NL MT SI FR CZ IT BG IE HR RO EL ES PT

GFCF, % of GDP

2017 2018 Average 95-18 Above

long term average

In line with long term average

Below long term average

Tight fiscal budgets and a change in spending priorities are at the core of the decline in public investment in recent years. Public investment has fallen most in countries that experienced strong pressure to tighten their budgets. The negative effect of fiscal consolidation was in many cases amplified by a re-prioritization of public outlays away from investment towards current expenditures. The budget share of current expenditures increased, for example, from 84.4% on average between 1995 and 2017 to 87.7% in 2018 (Figure 3). Instead, the budget share of capital spending dropped from 9.3% to 8.4%.

Fig. 3 Change in public expenditure composition (2018 versus 1995–2017 average) Note: this chart reports the changes in public expenditure composition from a long-term average (1995–2017) to 2018 by expenditure category. The sum of the components equals zero. Capital expenditure includes Gross Fixed Capital Formation, capital transfers paid and other capital

expenditures. Source of data: AMECO. Figure created by the authors.

After the considerable fiscal contraction of 2011–2013, the fiscal stance of the EU has started to improve (Figure 4). There are no signals, however, that this will translate into a strong pick-up in public investment any time soon. The fiscal forecasts of the European Commission suggest that, despite the positive fiscal outlook, public investment will increase only slightly in 2019 and 2020, to 3.0% of GDP.

What is more, there is no sign of a reversal of the deprioritization of public investment (so far): public investment as a percentage of total expenditure is expected

-4 -2 0 2 4 6 8

Western and Northern Europe

Cohesion Southern Europe EU-28

p.p. of public exenditure

Capital Expenditure Interest Current Expenditure

1. Europe Needs More Public Investment 21

to remain stable in 2019 and even decline slightly as a percentage of current expenditure;

suggesting no change in expenditure prioritization between current outlays and gross fixed capital formation (Figure 5).

Fig. 4 Fiscal stance in the European Union

Note: output gap as difference between actual and potential gross domestic product. 2019 and 2020:

forecast. Source of data: AMECO. Figure created by the authors.

Taking a medium-term perspective, public investment is projected to remain below its long-term average. The Stability and Convergence Programmes submitted during the 2019 European Semester show a steady outlook for public investment in the medium term. Budgetary plans report an aggregate public investment equal to around 2.9%–3.0% of GDP in Europe in 2019–2022 budget plans, which is below its long-term average of 3.2%.

Change in primary structural balance (% of GDP)

Output Gap (% of potential GDP)

Pro-cyclical fiscal contraction Counter-cyclical fiscal contraction

Pro-cyclical fiscal expansion Counter-cyclical fiscal expansion

The 2019 European Semester shows awareness of the issue. Compared to previous exercises, it has a stronger focus on investment. One of the general recommendations is to continue steps towards a ‘growth-enhancing’ composition of public spending.

Member States with adequate scope, notably Germany and the Netherlands, are recommended to use fiscal and structural policies to increase public investment.

The Commission also singles out, in each Member State, investment priorities. The Commission recommends most Member States to focus spending more on R&D and innovation, sustainable transport and energy (network infrastructure, low-carbon transition and/or energy efficiency).

Fig. 5 Fiscal stance and capital expenditure in the European Union Note: forecast for 2019 and 2020. Source of data: AMECO. Figure created by the authors.

2011 2012

2013

2014

2015 2016

2017 2018

2019 (f) 2020 (f) -0.4

-0.2 0.0 0.2 0.4 0.6 0.8 1.0