‘ReArm Europe’ Plan Would Lower EU’s ‘AAA’ Rating Headroom –Fitch
The European Union’s (EU) proposed ‘ReArm Europe’ plan would lower the EU’s rating headroom, mainly because of additional debt at the EU level, but would not, in itself, lead to a rating downgrade, according to Fitch Ratings.
“While greater national defence expenditure could affect the ratings of ‘AAA’ rated member states over the medium-term, ReArm Europe would also reconfirm the EU’s policy importance, which is a key rating factor.
Fitch said the plan, presented by European Commission President Ursula von der Leyen, includes EUR150 billion of EU defence loans to members’ states and would be funded by an increase in EU borrowing.
In addition, it proposes offering member states additional ways and incentives to use existing funds under cohesion policy programmes to increase defence expenditures -with no impact on the level of EU debt.
The global rating agency thinks that the draft legislation for the EUR150 billion of new EU debt, which is expected later this month, will be approved as it only requires the support of a qualified majority.
The Commission has also opened the door for countries to activate the national escape clause of the EU’s fiscal framework, allowing them to significantly increase defence spending without triggering the Excessive Deficit Procedure.
The Commission forecasts this would allow additional, national level defence spending by member states of EUR650 billion over the next four years.
To the extent that greater defence expenditure leads to the accumulation of higher debt by ‘AAA’ EU member states, Fitch noted that this could put medium-term pressure on their ‘AAA’ ratings, with potential implications for the EU’s own rating.
The EU’s ‘AAA’ rating is primarily based on the capacity and propensity of ‘AAA’ rated member states (Germany, Netherlands, Sweden, Denmark and Luxembourg, which together account for 36.7% of 2025 EU gross national income (GNI)-based budget contributions) to provide additional funding to the EU budget, if needed to repay debt.
Consequently, an actual or projected decline in the additional GNI-based contributions from ‘AAA’ rated member states below the level that fully covers annual debt service could lead to a rating downgrade.
Fitch said this could result from increased annual debt service following additional EU debt issuance, the downgrade of one of the largest ‘AAA’ rated member states (such as Germany, which accounts for 25% of EU27 GNI-based contributions for the EU’s 2025 budget; or the Netherlands, at 6%), or lower willingness to provide support by member states.
However, the EU’s reinforced policy importance would lower the likelihood of this negative sensitivity materialising. The Outlooks on all ‘AAA’ rated member states are Stable.
The maximum amount that the EU could draw from member states every year to repay its debt, the ‘own resources ceiling’, is 2% of member states’ GNI.
This includes 0.6pp of GNI earmarked to repay Next Generation EU debt. The own resources ceiling ensures full coverage of debt service by potential additional GNI-based budget contributions from ‘AAA’ member states, the main metric relevant for the EU’s ratings.
In 2024, the EU’s annual debt service amounted to EUR24.5 billion, compared to total additional budget contributions from ‘AAA’ rated member states of EUR78.1 billion, according to Fitch.
The resulting headroom could reduce but would still largely accommodate the repayment of EUR150 billion spread over several years.
Fitch expects that the EU will continue to manage its annual debt obligations in a way that ensures maintaining full ‘AAA’ debt coverage, barring a downgrade of a major ‘AAA’ member state, which we do not currently expect.
“This also means we do not expect defence-related lending by the EU to be scaled up further beyond the new plans”, the global rating agency said. #’ReArm Europe’ Plan Would Lower EU’s ‘AAA’ Rating Headroom—Fitch US Recession Looms for First Half of 2025 – CEO
