The exact extent of the fiscal stimulus related to defense remains uncertain, but the implications for the sustainability of public finances in euro area countries with high public debt must be carefully considered, according to the European Fiscal Board (EFB) in its annual report on the performance of the single currency area, published today.
The EFB suggests that simulations indicate increased defense spending financed by debt could lead to a significant rise in debt as a percentage of GDP in the medium to long term, potentially reversing expected progress in debt reduction unless compensatory measures are adopted.
Although Portugal’s public debt has been decreasing in recent years, it remains among the highest in terms of debt-to-GDP ratio among European Union (EU) countries.
For Portugal and other eurozone countries, the advisory body suggests that, excluding defense spending, it is appropriate to maintain a restrictive fiscal policy in 2026, in line with the Council’s recommendations from January 2025.
The announcement coincides with reports that Portugal and nine other EU countries (Poland, France, Lithuania, Estonia, Romania, Bulgaria, Slovakia, Greece, and Latvia) have expressed interest to the European Commission in utilizing the European program offering 150 billion euros in favorable loans to strengthen defense.
This new European credit instrument in extraordinary circumstances is part of the 800 billion euro defense plan in the EU.
Also included in the European plan are 650 billion euros in budgetary space that countries may utilize for defense investment, following the activation of the national safeguard clause of EU budget rules, allowing for up to 1.5% of GDP in military spending to be excluded from deficit limits. Lisbon has already received approval from Brussels to do so.
The report states that the flexibility provided by national escape clauses should be strictly limited to the increase in defense spending.
To enhance the credibility of public finances, member states resorting to the national escape clause should present robust medium-term strategies for funding permanently higher defense expenditure, starting with preliminary budget plans for 2026.
The EFB, established to strengthen the EU’s economic governance framework, indicates that these medium-term strategies should include proportional adjustments in national budget expenses and/or revenues.
The report was released a day before the start of the two-day North Atlantic Treaty Organization (NATO) summit, marked by significant geopolitical tensions in the Middle East and Ukraine and the need to increase security investments.
The EFB further notes that the eurozone is facing an exceptionally volatile environment, driven by geopolitical realignments, with much greater variance than usual in potential economic and budgetary outcomes.
The EFB is an independent advisory body created by the European Commission in 2016 to assess the implementation of EU budgetary rules, specifically whether the fiscal policy of countries is appropriate in macroeconomic terms.
