There are moments when I wonder whether the whole world has gone mad, or whether I’m just getting old and bitter. I’m no defense specialist, but for years I’ve questioned whether we’re taking enough responsibility for our own security. More specifically, when I served on the investment committees of several pension funds, I consistently opposed the exclusion of investments in arms manufacturers. Always in vain.
Pension funds are now cautiously reviewing that policy. But politicians appear to have fully changed their minds. In 2014, we spent 1 percent of GDP on defense; in 2024, that figure will reach 2 percent. It is now expected to rise to 3.5 percent for military hardware, plus another 1.5 percent for infrastructure and cybersecurity. The fear appears so great that there seems to be little room or need for substantive discussion. Hardliners seem to believe you have to strike while the iron is hot.
Mathijs Bouman recently showed in Het Financieele Dagblad, using figures from the CPB, that the Netherlands has rarely spent this much on defense in the past 200 years. Only during the Belgian secession and World War I were defense outlays comparable.
To me, any discussion about defense spending should begin by asking what, exactly, we’re defending ourselves against. The risk of cyberattacks or sabotage targeting critical infrastructure seems clear. The likelihood of enemy tanks rolling into our country seems much lower. Admittedly, if we think in European terms, that scenario becomes more plausible.
Basic math
You can also do some basic economic math. If Russia is our direct adversary, what are they realistically capable of? In nominal GDP terms, the EU economy is nearly eight times the size of Russia’s. A simple calculation suggests that if we spend 5 percent of our GDP on defense, Russia would need to spend 40 percent of theirs to match us militarily. Even if we use purchasing power parity (PPP), the EU is still about four times larger. That would translate to 20 percent of Russian GDP. According to SIPRI, Russia spent just over 7 percent of its GDP on defense in 2024 while actively waging war in Ukraine. For context, the United States spends about 3.5 percent, despite having far broader military and geopolitical ambitions.
I tend to agree with Mathijs Bouman: spending 5 percent of GDP on defense is absurd. Even 3.5 percent seems excessive. And if it must be done, I’d like to see a clear and convincing justification.
Meanwhile, the European Commission has finally acknowledged that the incomplete single market, launched back in 1992, along with excessive regulation, continues to hinder economic growth across the EU. They now intend to address it. Hooray!
The IMF recently noted that trade intensity between U.S. states is more than twice as high as that between EU member states. According to the IMF, internal EU trade barriers are equivalent to tariffs of 45 percent on goods and 110 percent on services. That is a massive drag on growth potential, even if those figures may be somewhat generous.
Urgency?
Of course, we should welcome the Commission’s initiative. But let us also recognize that it comes more than thirteen months after Enrico Letta published his report on exactly this issue. Is that what urgency looks like in Brussels?
It seems clear that we are holding ourselves back by imposing too many rules, and it is encouraging that the Commission is finally acknowledging this. But if I understand correctly, we will now have new rules and stress tests designed to prevent too many rules, plus sherpas to oversee it all. Forgive me for spotting the irony.
I have been a committed European for a long time. Perhaps it is my age, but I find myself viewing the Commission’s latest initiative with a hint of cynicism. Still, I promise to do my best to stay hopeful.
Han de Jong is a former chief economist at ABN Amro. He writes weekly for Investment Officer about economics and markets. You can read more of his views at Crystal Clear Economics.