The EU seeks more defence as it struggles in a hostile world
29 July 2026
The Irish Presidency of the EU runs for the second half of 2026. It opened much like any other six month new Presidency, with pledges to get on with more legislation that the Commission thinks is needed. There are the perennial wishes to make changes to the single market, to push the boundaries wider with new states joining and to press on with the overarching green transition that lies behind much of their work.
There are bigger tasks facing Ireland and the member states, as the time is approaching where they need to agree a new 7 year budget for the period 2028-2034. They fear National Rally doing well in French elections boosted by Le Pen’s intent to run. She is pledged to get the EU to spend less. This is acting as a stimulus to getting on with sorting out what the longer-term budgets will be. The war in Ukraine is intensifying as a rogue Russia increases attacks on civilians and housing in Ukrainian cities. Will the EU accelerate the negotiations for Ukraine to join the Union now membership is agreed in principle? Will Moldova’s application be advanced, in the face of Russian concerns? What will happen with Armenia while Russia wants to keep her influence in Georgia? EU Russia relations can become more hostile.
As a neutral country, Ireland must supervise discussions about the growing EU defence budget and about how EU countries will re arm. Germany is already taking full advantage of the EU relaxation of fiscal rules, allowing 1.5% of GDP extra to spend on defence without it counting against the EU controls on debts and deficits. This will boost a very slow growing economy.
The EU, so often seen as just a single market in the UK, has always been seen as a much wider Union on the continent. They are serious about the EU playing a wider role on the stage of international diplomacy and are pursuing a more active and powerful military capability in the leading member states to back the Union’s foreign policy. They want to expand the EU up to Russia’s borders in the east.
Defence
The EU has taken a growing interest in the regulation and financing of the defence industries in the EU. It now sees expanding defence budgets as one of the main ways of reviving flagging economies. It has set up a fund to help pay for extra weapons and is exploring how much further it can go with that approach. It is seeking to streamline EU member states defence procurement to encourage more common weapons with longer production runs.
The EU’s foreign policy side now requires EU led forces to take on duties. Missions include countering pirates in the Mediterranean (EUNAVFOR MED), Military Assistance Mission for Ukraine (EUMAM Ukraine), and EUMM GEORGIA. There is a general move to re armament. Poland and the Baltic states already make a major financial commitment relative to their GDP. Poland provides large land forces to NATO and for their own defence given the proximity to the Russian borders. It is likely the member states will agree to further increases in the EU defence budget and commitments.
Enlargement
The EU will continue its eastwards expansion. Montenegro is likely to join next, maybe in 2028. Albania is likely to follow. The cases of Ukraine and Moldova are more sensitive given their closeness to Russia and the war being waged. Georgia has paused its application to the EU whilst Armenia is still talking about its possible membership. These proposals push the EU border ever closer to Russia and are highly contentious in the areas concerned. As the EU takes on more of a role in defence, Russia is likely to become more aggressive to the idea of this further extension of EU territory.
The state of the single market
The single market has always been based on a customs union, with heavy protection by tariffs and common standards against imports from elsewhere. The Union has used the building of the single market to extend its legislative control over a wider range of fields, from employment and public procurement, safety and transport, to farming, trade and industrial standards.
There have been two reports by EU enthusiasts and insiders into the slow growth and lack of competitiveness of the EU compared to the USA and other leading advanced countries. Mr Draghi was damning in his verdict on the lack of success in technology, the absence of digital giant companies to match the US and the impact of too many rules and requirements imposed by the EU on business. Mr Letta’s report was keener on more EU changes to integrate and add to the governing structures, with proposals for Citizens Conferences and EU collective bargaining with more engagement with trade unions. He also, however, identified the stultifying impact of too many EU laws. He concluded “Over regulation places significant additional costs on businesses, proving unsustainable for SMEs and inadvertently favouring non European companies that are not bound by the same stringent rules”
The EU has come up with several Omnibus proposals to simplify these rules. There is not much sign of them identifying significant areas where they could remove rules altogether, and every sign the legislative momentum continues as they find new things to control. They are currently working on more regulation for social media, a Savings and Investment Union and a financial markets integration and supervision package amongst others.
The collapse of German growth in the last decade has been one of the worst developments in the EU. Germany used to be not only the largest EU economy, but one of the most successful. It was in surplus on its trade account and the government scarcely had to borrow thanks to strong tax revenues from industrial success. Germany could lecture the rest of the EU about the need for financial discipline and had to contribute large sums for transfers to other member states based on its prosperity.
Several changes conspired to end this great run. Germany decided to shut all her nuclear power stations, leaving the country without the strength of relatively cheap and reliable power when energy crises hit world markets. Germany had come to rely instead on cheap Russian gas, increasingly supplied by new gas pipes. The Ukraine war made the EU adopt a policy of getting out of reliance on Russian fossil fuels, leading to German difficulties with the costs and availability of crucial energy. Germany scrambled to obtain dearer power from elsewhere and had to put in LNG facilities to allow the import of US and Middle Eastern gas.
The EU decided on a policy of decarbonisation. This policy included an accelerated move from petrol and diesel vehicles where Germany was a great maker, to battery models. Germany found that transition difficult and watched as Tesla then China got well ahead with competitive battery cars. The EU imposed a creeping ban on petrol and diesel car sales, so Germany is having to close her most successful and important manufacturing centres making ICE cars as she struggles to design, produce and market attractive battery alternatives. The EU has agreed to delay the final closure of many petrol and diesel car plants until 2035 and has imposed some tariffs on Chinese battery cars to try to help, but there is still going to be a big drag to German economic performance from the impact of transition on a key industry.
The EU seeks a bigger budget and more EU tax revenue. It is talking of spending a smaller proportion of a rising budget on agriculture and more on competitiveness and defence. There is a move to take more revenue from the Emissions Trading Scheme and from the new carbon border adjustment mechanism, a carbon based tariff on imports. A levy on large companies is being considered, with the US digital giants always in their sights. The EU is seeking more ways of taxing waste as they promote recycling through their circular economy model, and taxing tobacco and gambling. A 3 Euro duty on goods imports up to 150 Euro in value has been introduced, to catch businesses using small parcel exemptions from tariffs. As they proudly report the “EU has significantly developed its direct taxation framework” in recent years.
The budget of E 212 bn in 2025 included E66 bn on cohesion (transfers to lower income members), E 58 bn on environment, E 27 bn on the single market and E 14 bn on administration. Member states must spend substantially on providing the detailed application and enforcement of EU rules and programmes where national civil services do most of the work.
The EU’s ReArm Europe Plan aims to allow up to E 800 bn more in defence spending by member states thanks to the borrowing relaxation. The Security Action For Europe, SAFE seeks to raise E 150 bn for common defence procurement. Total EU defence spending including member states is estimated to hit E 454 bn this year or 2.6% of GDP according to the European Defence Agency. 19 countries are seeking to use loans under SAFE and most are boosting national budgets.
The EU faces dangers in a war torn Europe with several flashpoints beyond Ukraine with Russia as an aggressive neighbour. This has led to a big push to rearm, with a modest relaxation of debt rules that the Union usually insists on. Individual EU states will continue to borrow more, and the EU itself is now building up a bigger debt burden. Growth remains very subdued. The EU is suffering from dear energy and from the impact of the digital and battery revolution. Strangely the EU which is the world leader in Green Transition has allowed the Chinese to dominate in batteries and battery cars, as well as solar panels and parts of wind turbines.
There remain some good international companies in the EU that flourish in the wider world of pharmaceuticals, food and drink, and well branded consumer products. The economies of the member states are held back by the absence of large successful digital companies and by the extensive code law of the EU itself as identified in the Draghi and Letta reviews. The new German government is pursuing some helpful changes, but the weight of the impact of new zero and energy policies on the once dominant German industrial sector means the old motor of the EU economy does not have the growth power it used to enjoy.
Overall, EU growth is likely to remain subdued, with a useful stimulus from defence spending providing some additional demand and output. The EU’s future budget will tax and spend more as government wrestles with the consequences of war, dear energy and net zero transition.
About the author
Lord Redwood is a well-known commentator on governments and economies, with long experience of investment markets. Trained as an analyst at Robert Flemings, he moved to N.M. Rothschilds where he became a Manager and Director of pension and charitable funds and Head of Equity Research. He was seconded to become Head of the Downing Street Policy unit before chairing a large, quoted UK industrial business. He served as an MP and a government minister.
In 2007 he set up Pan Asset with a colleague, an investment management business that pioneered active/passive funds and models in the UK. Following the sale of the business to Charles Stanley, a quoted investment manager in the City, he became their Global Chief Strategist advising on non-UK markets and economies. He also ran a demonstration fund for the FT, writing articles about it and illustrating the use that can be made of ETFs in portfolios.
John provides insights into the big investment issues of the day from the debt and spending problems of the major governments to the green and digital revolutions which have so much impact on equity markets. He is a Distinguished Fellow of All Souls College, Oxford, where he helps with their Endowment investments and gives occasional lectures on modern economics and politics.
Lord Redwood has supported the team at EPIC Markets with regular thought pieces, and with their migration to WH Ireland, will continue to add his personal views on topical matters.