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European Economies Are Finding New Ways to Pay for War on Their Doorstep

COPENHAGEN — Denmark, a founding member of NATO, has no artillery, submarines or air-defense system. The small Nordic nation didn’t think it needed them because a ground war in Europe seemed far-fetched—until Russia’s invasion of Ukraine

The conflict in its neighborhood has set it and similar European nations scrambling to plug gaps in their armory. Denmark, one of the richest nations per capita in the Western world, has pledged to boost military spending from about 1.4% of gross domestic product to the North Atlantic Treaty Organization’s target of 2% by 2030. 

To help cover the cost, the governing coalition canceled a 300-year-old religious public holiday in early May to recoup the additional tax revenue generated by one extra working day a year. But the move has proved unpopular, sparking the largest protests from the country’s labor unions in more than two decades, as well as opposition from leading Lutheran bishops. The government’s popularity has taken a hit among the country’s six million people as a result.

Denmark’s experience symbolizes how European governments are struggling to come up with ways to pay for a new era of higher costs. From Brussels to Berlin, administrations face additional demands for spending, including on defense, energy and the transition to clean fuels, as well as pressure from demographic changes that will drive up outlays on pensions and healthcare. Costly subsidies to compete with the U.S. in attracting clean-energy investments also loom. 

“We need to think outside the box,” said Danish Finance Minister Nicolai Wammen. “It’s not just a matter where you can increase taxes or make deep cuts into welfare. We want to try another path, so we believe it’s fair and responsible to ask people to work another day to achieve that.”

But such plans are getting pushback. Many European populations don’t want to see their already relatively high tax rates pumped up and resist cuts to a welfare system that will be increasingly tested as populations age and economic growth stagnates. 

In recent weeks, a move in France to raise the state pension age by two years to 64 sparked weeks of violent protest. Voters in Italy kicked out a government last year that had begun overhauls to rein in spending and government debt. Berlin is trying to revamp the pension system to create a sovereign-wealth fund to invest in stocks and bonds. 

A recent move in France to raise the state pension age by two years to 64 triggered weeks of violent protests (Photo: Arnaud Journois//Zuma Photo)

Surveys suggest more than 70% of Danes opposed scrapping the public holiday—a move the government hopes will add about $440 million a year to the defense budget of $3.9 billion. Union leaders said it was unfair that ordinary Danes had to work an extra day while business owners got the benefit.

In one sense, it is strange that Denmark is even trying to find new sources of money, given that it has a slight budget surplus, according to government figures, and boasts among the strongest fiscal numbers in the Organization for Economic Cooperation and Development, a club of industrialized nations. But Danish policy makers say they are trying to get ahead of higher costs that will chew through that surplus and more in coming years. For example, its state-run healthcare system, like in the U.K., needs greater funding to reduce a growing backlog of treatment and improve pay for staff.

“We are like a cyclist who finds themselves in good shape, but is about to enter the mountain stages,” Mr. Wammen said.

Elsewhere, the European Union has identified nine member states it says have a high risk of fiscal sustainability problems in the medium term, including Italy, France, Spain, Greece and Belgium. All have debt loads bigger than their annual economic output.

To be sure, no European government is in danger of an imminent debt crisis and the continent’s high inflation could actually eat into debt loads. But soaring structural costs come on the back of big one-off spending during the pandemic, followed by massive subsidies to shield economies from energy prices inflated by the war. That spending binge has raised the urgency of addressing longer-term budget issues.

“Many governments will require some sort of fiscal adjustment and the political economy of most countries is not very conducive to allowing those changes,” said Jeromin Zettelmeyer, director of Bruegel, a think tank in Belgium. Last fall, a U.K. government move that piled on debt by hiking spending and slashing taxes led to financial-market turmoil, costing Liz Truss, the then-prime minister, her job

Another risk factor is the war. While Russia’s military successes in Ukraine have been underwhelming, the threat to Europe from a bellicose Kremlin will remain as long as Russian President Vladimir Putin is in power, say military analysts and officials. 

Still, European governments have given far less than the U.S. in military aid to Ukraine. Germany, the biggest contributor in continental Europe, provided $2.5 billion through late February, versus nearly $47 billion from the U.S., according to figures compiled by the Council on Foreign Relations. More than a year into the conflict, many countries are struggling to increase their defense budgets long term. European governments spend on average 1.3% of their GDP on defense compared with 3.5% in the U.S., according to government statistics.

“There’s a sense that we haven’t in Europe made the step to a war economy, because we’re hoping we can get away without it,” said Mr. Zettelmeyer. “If that’s not the case, there’s going to have to be a much bigger societal effort, which is going to have to include debt and more spending.”

Public opinion could shift against the war effort in Ukraine if big increases in military spending mean higher taxes or less money for social services, according to officials and analysts. After the Cold War, Denmark used its small armed forces to plug into larger U.S. or British expeditions to Iraq and Afghanistan, says Anders Puck Nielsen, a military analyst at the Royal Danish Defence College. Now that the threat comes from Europe’s own neighborhood, “we need much greater robustness, and that is more expensive,” he said.  

Denmark purchased French-made Caesar howitzer artillery systems following Russia’s annexation of Crimea in 2014 but decided to give them to Ukraine when they arrived last year, delaying its own buildup. Another system ordered for its own use won’t be ready for some years. By 2030, according to Finance Ministry estimates, Denmark will have greater demand for state support: 110,000 more people aged over 69 will need pensions and healthcare, while 7,000 more children under 7 will require schooling and other services.

The Danish Treasury calculates that the country will need to spend an extra $2.9 billion a year on military spending, $3 billion annually for increased healthcare and pension costs, and $367 million a year on the transition to green energy by 2030.

The Danish government is looking at other ways to boost revenue. It recently passed an education overhaul reducing Denmark’s free, five-year public university system—which pays students to go to classes—to four years for most degrees. It is also looking to streamline the operating costs of its welfare system.

Source: David Luhnow for WSJ

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