Following the successful launch of the euro, the other major challenge facing the European Union (EU) at the end of this century is its expansion to the east. Just like monetary union, the admission of ten Central European Countries (CEC)¹ which have applied for European Union (EU) membership will have profound implications for Europe in the opening decades of the next millennium.

After the fall of communism in Central Europe, longstanding cultural and historical links, as well as economic and political ties, were swiftly revived and naturally led the EU and its Member States to become the main investors, creditors and donors of aid in the region. The main EU instruments for helping the Central European candidates to prepare for Union membership are European Investment Bank (EIB) loans and Phare grants provided by the European Commission (EC). Phare grants are used for a wide range of activities including administrative reforms in the CECs and the introduction of EU laws, norms and standards. In addition, Phare grants are now increasingly used for co-financing capital investment projects with the EIB, as well as the European Bank for Reconstruction and Development (EBRD) and the World Bank who also work in close co-operation with the EIB.

In 1998 the EIB - the house-bank of the Union - lent some 2.4 billion euros in the ten candidate countries in Central Europe. This was a sixty per cent increase on the previous year and nearly five times the Bank's overall growth rate. With a further 3.0 billion still earmarked for projects in the accession countries, 1999 is already set to become another record year for EIB activity in the region.

Framework for EIB lending to EU applicants

The EIB was established in 1958 under the Treaty of Rome as the EU's long-term financing institution for supporting capital investment projects that further European integration. While strengthening economically weak regions in the member countries has always been its main remit, the Bank also finances projects in support of other EU policies. In some 120 countries outside the Union the EIB is supporting the EU's external development and co-operation policy. Since the collapse of communism in the CECs a decade ago, the Bank has become increasingly active in this region, providing finance and know-how for the transformation of the centrally planned economies.

From transition to pre-accession

Following several years of successful economic, political and social transformation, ten Central European countries applied for membership of the EU. In November 1998 the EU started membership negotiations with five of them.² Another five, the so-called 'second-wave' candidates, also have Accession Partnerships with the Union leading to EU membership.

The EIB's pre-accession support is available to all ten countries working for accession to the EU - both to those able to join it earlier, as well as those needing more time. With this approach the EIB can assist the development of infrastructure networks, linking these countries with each other and with the Union. In line with the strategy applied when Greece, Portugal and Spain applied for EU membership a couple of decades ago, the EIB's main objective in the Central European candidate countries is to strengthen economic integration with the EU as well as within the region.

EIB launches special pre-accession lending facility

The role of the EIB in the candidate countries reached a new stage in January 1998 with the launch of a special 'Pre-Accession Facility' of 3.5 billion euros to complement the broader three-year mandate approved in 1997. This brought the EIB's three-year lending ceiling (1997-1999) for the region to 7.0 billion euros, allowing the Bank to meet the strong demand for its finance in all ten candidate countries.

An efficient financial intermediary

The Bank's loan conditions in the candidate countries are substantially in line with those applied to projects in the EU. Its credits are particularly suitable for investment in the EIB's traditional sectors of intervention, namely basic infrastructure and industry. The Bank can offer attractive financing terms to public and private sector promoters, including private firms investing individually or as joint venture partners who could not obtain similar conditions by accessing international capital markets directly.

The EIB's reputation of evaluating its projects carefully, together with its powerful financial standing, helps to mobilise domestic and international co-financing partners. In this way the Bank acts as a catalyst for investment in the applicant countries. Its project analysis, insistence on the appropriate tendering of contracts, and advice throughout long implementation periods helps promoters to develop technically and economically viable projects.

No country or sector quotas

The Bank's areas of activity in Central European applicants are much the same as those within the Union: regional development, transport and telecommunication infrastructure, supply and efficient use of energy, urban renewal, environmental protection and competitiveness of industry in general, and that of smaller businesses in particular. As within the Union, the Bank only lends up to a maximum of 50 per cent of project costs, leaving a wide scope for co-financing, notably with international partners.

Focus on transport projects

The bulk of the 2.4 billion euros lent to projects in Central Europe in 1998 went to transport projects such as railway modernisation in Hungary and Romania, road improvements in Bulgaria, Lithuania, Poland, the Czech Republic, Romania and Slovenia, and urban transport schemes in Budapest, Krakow and Katowice.

Industry

Among the larger industrial projects recently financed in the region were automotive plants in Hungary and Poland, a wood panel factory in Romania, and a plant for industrial gases in Poland. Small and medium-sized enterprises also have access to EIB finance, but indirectly, through EIB credit lines to selected local banks in each county. In 1998 new credit lines amounting to nearly 100 million euros were extended to commercial banks in Hungary, the Czech Republic, Latvia, Romania and Slovenia. Commercial banks in the applicant countries are thus welcome partners of the EIB, both as intermediaries and as guarantors for its loans.

Environmental challenge

Last year the Bank financed public transport projects in Budapest, Bucharest and Krakow, investments that will help prevent a further shift from public to individual transport. Recently the Bank also signed a 110 million euros environmental protection loan with the City of Budapest to help improve the quality of city life. The funds are being used for replacing obsolete and noisy trams, upgrading roads and sewage systems, acquiring solid waste-incineration equipment, as well as the restoration of parks, playgrounds and thermal baths. Currently the EIB is examining a number of such environmental schemes submitted for financing by local authorities in the applicant countries.

While EIB support for modernising energy and transport infrastructure is often also helping to improve the quality of air and water, or to reduce noise levels, the Bank is now placing particular emphasis on projects either solely pursuing or mainly pursuing environmental objectives. As the new EU members will have to comply with the Union's environmental standard, investment in environmental schemes is in fact becoming increasingly urgent and the EIB can provide not only suitable finance, but also useful project preparation expertise in this field.

Developing local capital markets

While the EIB is already the largest multilateral lender to projects of Central European EU applicants, with loans totalling some 8.6 billion euros, the Bank has also become active as a borrower by issuing bonds denominated in the currencies of the region. So far the Czech koruna, Estonian kroon and Polish zloty bonds have been placed on the Euromarket and Forint bonds were issued in the Hungarian domestic market. A domestic Czech koruna bond issue will be launched shortly in the Czech Republic. The presence of a large and experienced player such as the AAA-rated EIB on the Central European capital markets is contributing to their deepening and internationalisation. Such transactions also allow the EIB to channel domestic savings in these countries into productive projects, while eliminating the exchange risks for the project promoters by onlending in local currencies.

Conclusion

So far economic growth in Central European EU candidates has not suffered significantly from the turmoil in the financial markets and the worsening international climate. Most accession countries are consolidating progress made in setting up functioning market economies and are swiftly introducing EU laws and regulations, as foreseen in the 'accession partnership' agreements with the EU. However, their physical investment needs remain enormous and it is obvious that the candidate countries cannot, by themselves, generate the funds required to close the gap, further separating them even from the poorer EU members.

Demand for funding from the EIB and other outside sources is thus likely to remain strong over the coming years, if Central Europe is to equip itself with modern networks for roads, railways, airports, ports and urban transport. This also holds true for environmental protection, as the countries in the region are adopting EU standards for air, water and noise. In telecommunications an impressive flow of international capital into the region has already brought about a quantum leap into the newest technology. Industrial projects will also continue to receive considerable foreign direct investment (FDI) over the coming years, as will energy schemes, which will also need substantial loan financing with the long repayment periods typical for this sector.

These positive developments involving international investors and financiers are encouraging. But there is no doubt that EU support, in the form of Phare and other grants, as well as long-term loans from the EIB will be required for many years to come. The European Union (EU) and its Bank remain fully committed to expansion and will continue to play a crucial role in channelling funds and know-how into the future member countries, before and after their accession to the Union.

1 Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia and Slovenia
2 The Czech Republic, Estonia, Hungary, Poland and Slovenia