Explanatory Memorandum to COM(2018)476 - European Defence Fund

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dossier COM(2018)476 - European Defence Fund.
source COM(2018)476 EN
date 13-06-2018


1. CONTEXT OF THE PROPOSAL

• Reasons and objectives

The EU’s geopolitical context has changed dramatically in the last decade. The situation in its neighbouring regions is unstable and it faces a complex and challenging environment in which new threats, such as hybrid and cyber-attacks, are emerging, and more conventional challenges are returning.

EU citizens and their political leaders agree that the EU should collectively take more responsibility for its security. In the joint declaration of 25 March 2017 in Rome, leaders of 27 Member States and the European Council, the European Parliament and the European Commission stated the Union will strengthen its common security and defence and foster a more competitive and integrated defence industry.

European defence faces significant market inefficiencies linked to untapped economies of scale (fragmentation of national markets with a single buyer) and duplication of resources at national level. The demand comes almost exclusively from Member States, but their defence budgets, in particular for research and development (R&D), have seen important budget cuts in the past 10 years. Although there are recent positive indications as regards stabilisation and increases of national defence funding, significant further efforts are needed to maximise the efficiency of these investments. At the same time, the costs of defence equipment and in particular R&D have increased, while cooperation between Member States in R&D and defence equipment investments has remained limited. In 2015, only 16% of defence equipment was procured through European collaborative procurement, far away from the collective benchmark of 35% agreed in the framework of the European Defence Agency (EDA). The estimated share of European collaboration in the earlier stage of defence research was of only 7.2% against a benchmark of 20%.

These trends are reflected in the difficulties that the sector faces, which are substantial as regards defence research and defence development projects. The development of prototypes is particular costly and there is an important risk of failure. Also bridging the valley of death between research and development entails significant technical and financial risks that individual Member States may not wish to bear on their own.

The sector is largely fragmented across national borders, with substantial duplications and resulting inefficiencies in terms of failure to capture economies of scale and learning. Despite the combination of increasing costs and stagnating or shrinking defence budgets, planning, R&D spending and the procurement and maintenance of equipment have remained largely matters for individual Member States, with very limited cooperation between them. The existing situation is not sustainable and the development of a major next generation defence system is increasingly beyond the reach of individual Member States.

This lack of cooperation between Member States further weakens the ability of the EU defence industry to sustain the industrial and technological capabilities necessary to preserve the EU's strategic autonomy and meet its current and future security needs. In response, the Commission has taken a number of initiatives in support of greater defence cooperation.

On 7 June 2017, in line with President's Juncker's 2016 state of the Union' speech, the Commission adopted a Communication launching the European Defence Fund 1 consisting of windows for research and for capability. The Communication was accompanied by a legislative proposal for a Regulation establishing the European Defence Industrial Development Programme under the capability window.

Contents

1.

A two-step approach was proposed, involving:


–an initial test period under the 2014-2020 multi-annual financial framework during which a Preparatory Action on Defence Research supports collaborative defence research, while the proposed European Defence Industrial Development Programme will co-finance collaborative development projects, and

–a dedicated fund under the 2021-2027 multi-annual financial framework scaling up the funding for collaborative research in innovative defence products and technologies and for subsequent stages of the development cycle, including the development of prototypes.

The present proposal is for the setting up the European Defence Fund under the 2021-2027 multi-annual financial framework.

The European Defence Fund is intended as an instrument to foster the competitiveness and innovativeness of the European defence technological and industrial base thereby contributing to the EU's strategic autonomy. It aims to trigger cooperative programmes that would not happen without an EU contribution and, by supporting research and development activities, to provide the necessary incentives to boost cooperation at each stage of the industrial cycle.

Collaborative projects with significant cross-border participation by small and medium-sized enterprises will be particularly encouraged. This will ensure that the Fund remains open to recipients from all Member States, regardless of their size and location in the Union.

This proposal provides for a date of application as of 1 January 2021 and is presented for a Union of 27 Member States, in line with the notification by the United Kingdom of its intention to withdraw from the European Union and Euratom based on Article 50 of the Treaty on European Union received by the European Council on 29 March 2017.

• Consistency with other Union policies

While defence research falls under the scope of the Research and Innovation Framework Programme ('Horizon Europe'), the corresponding specific provisions for defence research such as objectives, rules for participation, delivery mechanisms are specified in the present proposal for a Regulation establishing the European Defence Fund.

In order to ensure coherence and complementarity in the promotion of the defence interests of the Union under the next multi-annual financial framework, the Commission will seek to ensure synergies with other EU initiatives in the field of civil R&D, such as security and cyber security, border control, coast guard, maritime transport and space.

2.

In particular synergies should be sought with:


- the specific programme implementing Horizon Europe with a focus on civil applications so that results from defence R&D will benefit civil R&D and vice-versa;

- the Union space programme, in particular its components Governmental Satellite Communication (GOVSATCOM), Space Surveillance and Tracking Support (SST) and Copernicus. This may be done notably by ensuring technical compatibility where the projects make use of global navigation satellites system (GNSS) and GOVSATCOM capabilities. This may also be done by developing upgraded sensors, exchange platforms for classified data, applications based on data or information and services that are provided by the space programme's components;

- EU initiatives in the field of cybersecurity, such as those announced in the Joint Communication on cybersecurity 2 . In particular, the cyber security competence centre to be set up should seek synergies between the civilian and defence dimensions of cybersecurity. It could actively support Member States and other relevant actors by providing advice, sharing expertise and facilitating collaboration with regard to projects and actions as well as, when requested by Member States, acting as a project manager in relation to actions under the European Defence Fund;

3.

- the actions identified under the coordinated civil military maritime security research agenda and with maritime transport; and


- other relevant EU programmes in the field of security, such as the Internal Security Fund and the Integrated Border Management Fund.

The implementation of the European Defence Fund will take place in close coordination with activities of the Commission and the High Representative for Foreign Affairs and Security Policy in the area of defence, including the Financial Toolbox, which aims to further facilitate joint development and acquisition of defence capabilities. In particular, the toolbox's financing models for capability acquisition will serve as a voluntary reference for Member States wishing to procure jointly products and technology developed with the support of the European Defence Fund.

There will be close links between the Fund and projects implemented in the framework of permanent structured cooperation in defence (PESCO). Once assessed as eligible, a PESCO bonus, in the form of a higher funding rate, will be granted to eligible PESCO projects. The Commission should be invited to be involved in the proceedings of the projects in order to be consulted, so that it can help assess the possible eligibility of such projects under the Fund.

The Fund will take account of the EU capability development plan (CDP) identifying the defence capability priorities, and the EU coordinated annual review on defence (CARD), which inter alia monitors the implementation of the priorities and identifies new opportunities for cooperation. In this context, account may also be taken of relevant activities carried out by the North Atlantic Treaty Organisation (NATO) and other partners where they serve the Union's security and defence interests and do not exclude any Member State from participating.

The Fund also takes into account defence activities implemented through the European Peace Facility, an off-budget instrument proposed outside the multi-annual financial framework.

The combination of project-oriented support in the form of European Defence Fund funding and well-designed and targeted financing in the defence sector can make a powerful contribution to strengthening the resilience of the sector and addressing its vulnerabilities, in particular benefitting innovative SMEs and midcaps. Budgetary guarantees can be a fiscally efficient way to address risks in the supply chain of sub-contractors involved in projects funded by the Fund. The defence sector has been proposed as an eligible sector for support through budgetary guarantees under the InvestEU Fund, which forms a cross-sectoral and over-arching framework supporting investment in various policy fields, underpinned by EU budgetary guarantees. The present proposal provides for the possibility of blending support under the Fund with financing backed by Invest EU.

The Fund's actions should be used to address market failures or sub-optimal investment situations, in a proportionate manner, without duplicating or crowding out private financing and have a clear European added value. This will ensure consistency between the actions of the Fund and EU State aid rules, avoiding undue distortions of competition in the internal market.

2. LEGAL BASIS, SUBSIDIARITY AND PROPORTIONALITY

• Legal basis

The European Defence Fund aims at fostering the competitiveness and innovativeness of the Union’s defence technological and industrial base by supporting defence-oriented R&D activities. It is based on the Treaty on the Functioning of the European Union (TFEU) Titles Industry and Research and technological development and space (Articles 173, 182, 183 and 188).

Article 173 of the TFEU constitutes the legal base for actions aimed at, inter alia, encouraging an environment favourable to the development of undertakings throughout the Union, particularly SMEs, favourable to cooperation between undertakings and fostering better exploitation of the industrial potential of policies of innovation, research and technological development.

As the European Defence Fund aims at fostering the competitiveness and innovativeness of the EU's defence technological and industrial base by supporting defence-oriented R&D activities, its aim and its content justify the choice of 173 TFEU as legal basis. Defence-oriented research actions also form an integral part of the European Defence Fund. Their aim and content also justify Article 182 TFEU as an additional legal basis.

Pursuant to the TFEU all research activities shall be covered by a multiannual framework research programme. The basic act of the multiannual research and innovation framework programme post-2020 Horizon Europe contains the necessary provisions setting out the links between the specific programmes established by it on defence research and on implementing Horizon Europe (which has a focus on civil research and innovation activities).

The detailed provisions for Union funding to defence research projects and its budget allocation are fixed in the present draft Regulation on the European Defence Fund, which also defines the rules of participation for defence research. Research and innovation activities carried out under the European Defence Fund have an exclusive focus on defence applications.

• Subsidiarity (for non-exclusive competence)

In today's world, guaranteeing security means dealing with threats that transcend borders. No single country can address these alone. The Union will need to take greater responsibility for protecting its interests, values and the European way of life, in complementarity and in cooperation with NATO.

Efforts to meet the Union’s level of ambition in security and defence (as endorsed by the European Council in 2016) will contribute to this objective. To be ready to face tomorrow's threats and to protect its citizens, the Union needs to enhance its strategic autonomy. This requires the development of key technologies in critical areas and strategic capabilities to ensure technological leadership. Greater cooperation at all levels is the only way to meet Union citizens' expectations.

By encouraging cooperation, the Union can help maximise the output and quality of Member States' investment in defence. The European Defence Fund will bring EU added value by incentivising joint research on and development of products and technologies in the area of defence to increase the efficiency of public expenditure and thus contribute to the Union’s operational autonomy.

Decisions on defence investments and defence development programmes remain the prerogative and the responsibility of Member States. The Union cannot and should not make up for the low levels of defence investments of Member States. However, it can complement, leverage and consolidate their collaborative efforts in developing defence capabilities to support the European defence industry and respond to security challenges. This would avoid duplication, allow for a more efficient use of taxpayers' money, improve the interoperability of defence equipment, minimise fragmentation and boost competitiveness and innovation in the European defence technological industrial base.

• Proportionality

The proposed policy approach is proportionate to the scale and gravity of the problems that have been identified, i.e. lack of cross-border cooperation, and the need to support the competitiveness of European industry and collaborative defence R&D. It respects the limits of possible Union intervention under the Treaties.

The initiative is limited to goals that Member States cannot achieve satisfactorily on their own and where the Union can be expected to do better. The proposed delivery mechanism implemented at European level will be aimed at limiting financial and administrative costs.

• Choice of the instrument

The Commission proposes a Regulation of the European Parliament and of the Council in order to set up the Fund. This is the most suitable legal instrument as only a Regulation, with its directly applicable legal provisions, can provide the necessary degree of uniformity needed for the establishment and operation of an Union funding programme aiming at supporting an industrial sector across Europe.

3. RESULTS OF RETROSPECTIVE EVALUATIONS, STAKEHOLDER CONSULTATIONS AND IMPACT ASSESSMENTS

• Retrospective evaluations/fitness checks of existing legislation

The programmes established under the current multi-annual financial framework have been in place for a limited time and therefore do not offer important opportunities to learn and take the experience into account in the preparation of this programme.

The preparatory action on defence research was launched in April 2017 with a total budget of EUR 90 million over three years. It has started to bring first concrete results, with the first grant agreements signed in 2018, but all projects are still ongoing.

The applicants to the 2017 calls cover a wide geographical area: entities of 25 EU Member States and Norway applied, including a large number of unique applicants: 187 in total. The projects selected for funding include participants from 17 EU Member States. In terms of type of applicants, the proposals include private sector, both large and small industry, SMEs, public bodies and research centres and universities. SME participation is at 30% in the proposals without the Preparatory Action on Defence Research imposing strict rules on SMEs participation. This SME participation rate has been retained in the projects selected for funding with 32% participation of SMEs with a budget value of 14%. This data shows that the calls of the first year of the preparatory action on defence research had a good response and attracted strong interest from the sector. From this good response rate, the preliminary conclusion can be drawn that relevant defence topics have been addressed and generated the interest from the sector.

The proposed European Defence Industrial Development Programme Regulation for 2019-2020 will have a budget of EUR 500 million. The co-legislators reached a compromise agreement on 22 May 2018. The European Defence Industrial Development Programme should be operational from 1 January 2019.

The compromise agreement found has shown the political will of the co-legislators to rapidly agree on the budget, set-up and implementing modalities of a programme for co-financing of the development of defence products and technologies.

The present legislative initiative involves scaling up of these two existing initiatives under the 2014-2020 multi-annual financial framework. On the basis of the experience with Preparatory Action on defence research and the European Defence Industrial Development Programme and an assessment of the extent to which the set-up of the two programmes are aligned, a single integrated Fund is proposed. This will allow for streamlining and simplification.

• Stakeholder consultations

To give all stakeholders the chance to comment, the Commission carried out an open public consultation (OPC) on the European Defence Fund from 13 January to 9 March 2018, as part of a wider consultation exercise on all policy areas covered by the EU budget for 2021-2027. Several position papers have been submitted through the OPC web portal.

Various stakeholder groups were reached, including those directly affected by the Fund, such as industry and research institutions, and those that have an opinion on the subject, but are not direct recipients, such as citizens and Non-governmental Organisations (NGOs). Some of the latter criticised the initiative from an ethical perspective. Whilst their concerns have been taken, as appropriate, on board in the proposal (e.g. as regards ethics, the need to comply with international conventions), the Commission is exercising its right of initiative to answer EU citizens' and their political leaders' call for supporting the EU defence industry and for greater security.

The directly affected stakeholders support the initiative. They commented on the topics to be financed and made suggestions as to the structure of the Fund and funding arrangements. The main points were as follows:

–the focus should be on long/mid-term research and development priorities (technology push and disruptive innovation) with a view to the long-term competitiveness of the sector and providing breakthrough capabilities. The priorities of the Fund should be determined with Member States in the context of annual/multiannual work programmes;

–the structure of the Fund should reflect a holistic capability-driven approach covering the whole technology cycle and on the basis of a single Regulation. The detailed arrangements of the two windows should be aligned as much as possible;

–stakeholders unanimously consider that rules on Intellectual Property Rights (IPR) need to be adapted for defence. Research organisations called for the protection of the rights of all project participants, not only those of big industry;

–on funding rates, stakeholders shared the view that funding rates need to take into account the specifics of the sector. Research institutions argued for higher financial contributions for research up to 100% and to cover indirect costs related to infrastructures. The report from a Group of Personalities on the Preparatory Action on Defence Research (Group of Personalities Report) 3 advised that a higher percentage of indirect costs should be covered;

–as regards forms of financial support, respondents suggested considering options for co-funding by Member States, e.g. through pre-commercial procurement and blending operations managed through InvestEU in cases with civil spin-offs or relating to testing facilities.

• External expertise

The Commissioner for the internal market, industry, entrepreneurship and SMEs convened a group of 16 high-level persons active in the area of defence (from industry, research organisations, the European and national parliaments, and policy-focused institutes) to provide external advice in the short and longer terms of defence research policy. Following regular conversations and consultations the group published a report on European Defence Research - the case for an EU-funded R&T programme 4 in January 2016.

The Group helped to shape the Preparatory Action on Defence Research launched in April 2017 and provided strategic advice on the longer term aspirations for Union-funded defence-related research.

• Impact assessment

In line with the Commission's better regulation practices, this proposal is supported by an impact assessment. The independent Regulatory Scrutiny Board scrutinised the impact assessment report on 11 April 2018 and issued a positive opinion. The board recommended clarifying the legal base of the initiative and potential overlaps with research funded in the other Horizon Europe specific programme, to adjust the narrative on delivery mechanisms to allow for a more selective approach, and to better justify the proposed direct management mode for the Fund. The impact assessment report has been amended accordingly, in line with the board's recommendations. Section 3.2.1 of the Impact Assessment has been fully updated in line with the first recommendation. The wording of Section 2.4 has been improved and now clearly explains the delineation between the European Defence Fund and the specific Programme implementing Horizon Europe with regard to civil applications. To better explain the delineation and strengths and weaknesses of the different options, the wording across Section 4.1 has been adjusted and also the assessment of the Options in Section 4.2, which now includes the possibility to implement, on a case-by-case basis and where appropriate, some measures inspired by the logic of Option 3. Finally, specific wording to justify the direct management mode is included in Section 4.1.1.

The impact assessment report explains the problems and underlying problem drivers that led the Commission to propose the initiative. These relate to cuts in national defence budgets and uncoordinated spending, leading to inefficiencies and reducing the availability of defence equipment to critical levels. The report also found that the lack of innovation in defence was problematic and that the declining levels of cooperation in defence R&D and equipment investments hamper the Union's ability to develop new defence technologies and systems. The fragmented demand is reflected in inefficient organisation on the supply side, including significant duplications, small scales of production and industrial supply chains built mainly on a national basis. All of this has restricted the interoperability of defence equipment and led to missed economies of scale.

According to the report, the Fund will help to redress the situation by channelling EUR 13 billion into collaborative defence-oriented research and capability development making the Union one of the largest investors in defence research in the EU and functioning as a catalyst by redirecting individual spending to EU cooperative development projects with common technical requirements addressing EU priorities.

4.

The report assessed three options as regards the structure of the Fund and delivery mechanisms that would make it possible to address the problems in the most optimal manner:


–option 1 – to maintain the two current separate testing programmes under the 2014-2020 multi-annual financial framework but spending levels increased more than six-fold;

–option 2 – to introduce additional flexibility and simplification measures. A single Fund would allow for integrated planning for both research and development with harmonised participation rules. Option 2 takes account of the concern of stakeholders that funding levels for indirect costs are too low in the methodology applied in the Baseline scenario. The specific characteristics of the sector, including the dependence on a single buyer and the important limitations to commercially exploit the results from defence-oriented R&D, should be acknowledged. Under Option 2, flexibility will be introduced allowing to better cover indirect costs. Also, simplification measures would be introduced, such as grants in the form of lump sums; and

–option 3 – to introduce more stringent requirements, i.e. replace an approach based on incentives and bonuses with a more prescriptive approach aimed at addressing the identified problems in a more intrusive way in order to achieve results faster. Such a prescriptive approach also entails significant risks, especially as regards uptake, which may limit the capacity of the Fund to achieve its objectives.

After comparing the options, the report recommends option 2 as it maximises synergies and introduces simplification, and the incentive-based approach is less risky than the prescriptive approach in option 3. Option 2 would be the best way of ensuring that the Fund:

–promotes the integration and strengthening of the global competitiveness of the European defence technological and industrial base;

–supports the development of defence products and technologies in the Union by acting as a catalyst for R&D cooperation programmes in key defence technology areas; this should lead to follow-on collaborative defence investment programmes addressing Member States’ future capability needs and strengthening the development of future capabilities through increased cooperation; and

–delivers EU added value, given its ability (without substituting national efforts) to coordinate a wide range of stakeholders from defence ministries (as exclusive customers) to defence industries (as sole providers of defence products) in order to achieve outputs to the benefit of all.

• Simplification and flexibility

Integrated approach: a European Defence Fund covering both research and development activities allows for an integrated, mutually reinforcing support, avoiding the risk of research results being lost in the absence of continued support for the further development and testing of the technology. This will strengthen the uptake of products and technologies that are supported through Union funding. In addition, an integrated, more flexible fund will allow for additional forms of support where relevant, including through pre-commercial procurement. This will make it possible to identify the market solutions that offer the best value for money to address Union’s defence research and development needs.

Taking account of the specific nature of R&D in the defence sector: the design and the structure of the European Defence Fund are informed by experience with the Preparatory Action on Defence Research and the proposal for an European Defence Industrial Development Programme Regulation, the Stakeholder feedback and the impact assessment findings and in particular on the specific characteristics of the sector where Member States and associated countries normally fully fund all R&D cost given the restrictions to exploit R&D results. The Defence Fund allows the necessary flexibility to better cover indirect costs, whilst at the same time measures are put in place to safeguard that no overcompensation takes place.

Actions of the Fund implemented during development phase are strongly interlinked with Member States’ planning and acquisition strategies and processes, including their financial contributions to multinational armament projects. Therefore, it is important that Member States are involved in award decisions for development actions according to comitology rules.

The funding rates for the development of prototypes and actions in the subsequent stages of development will be lower than those for other actions prior to the prototype phase. This will allow for appropriate incentives to support the launch of collaborative prototype development projects while taking into account the important role of Member States' funding in this area.

The rules for participation in the European Defence Fund will take into account the specific nature of the defence sector, in particular as regards the strict need for security of information and the management of results of the actions, etc.

Particular attention will be paid to ensuring appropriate participation by small businesses, through increased funding rates to encourage cross-border participation of small and medium-sized enterprises in collaborative projects.

Extensive use of output-based tools (single lump sums and flat rates for grants) will avoid ex-post accounting controls on eligible costs and possible control complexity (security clearance). In particular, where the Union is topping-up a minor part of a provisional budget already endorsed by Member States (support for the development of prototypes), the Union grant will take the form of a single lump sum paid on deliverables accepted by Member States. As a rule, the Union contribution must be paid in respect of deliverables. This will ease the management of the Fund, reduce the management costs and limit the error rate.

The Commission will implement the European Defence Fund in direct management so as to maximise effectiveness and efficiency of the delivery. Member States will be closely involved in the implementation of the European Defence Fund.

• Fundamental rights

Enhancing the security of EU citizens safeguards their fundamental rights.

Funded activities will comply with the Union's commitments under international agreements and all applications for funding will be screened by ethical experts.

4. BUDGETARY IMPLICATIONS

5.

The proposed budget allocation for 2021-2027 is EUR 13 000 000 000 (in current prices), of which:


–EUR 4 100 000 000 for research actions;

–EUR 8 900 000 000 for development actions.

The impact on the multi-annual financial framework period in terms of required budget and human resources is detailed in the legislative financial statement annexed to the proposal.

5. OTHER ELEMENTS

• Implementation plans and monitoring, evaluation and reporting arrangements

The legislative financial statement sets out the resources required in the Commission's departments for the implementation of the Fund. Subject to confirmation of cost efficiency through a cost-benefit analysis, the Fund may be managed by an Executive Agency of the Commission.

6.

A monitoring scheme is proposed to support performance reporting and evaluation. Results will become available progressively. Monitoring information will relate to:


–input indicators (e.g. number and types of projects) in the early years;

–output indicators half way through the programming period information (and depending of the length of the projects);

–results indicators (e.g. subsequent procurement by Member States, and patents) in the later years of the Fund.

Evaluations will be carried out in line with paragraphs 22 and 23 of the Interinstitutional Agreement of 13 April 2016 5 , where the three institutions confirmed that evaluations of existing legislation and policy should provide the basis for impact assessments of options for further action. The evaluations will assess the programme's effects on the ground based on the programme indicators/targets and a detailed analysis of the degree to which the programme can be deemed relevant, effective, efficient, provides enough EU added value and is coherent with other EU policies. They will include lessons learnt to identify any lacks/problems or any potential to further improve the actions or their results and to help maximise their exploitation/impact.

Once sufficient information is available and at the latest four years after the start of the implementation, an interim evaluation of the Fund will be carried out on the implementation of the Fund, in parallel with the ex-post Preparatory Action on Defence Research and the European Defence Industrial Development Programme evaluations.

The Commission will carry out a final evaluation at the end of the implementation period when most projects have been finalised.

Climate mainstreaming

The Commission proposal for the 2021-2027 multi-annual financial framework set a more ambitious goal for climate mainstreaming across all EU programmes, with an overall target of 25% of EU expenditure contributing to climate objectives. The contribution of this Fund to the achievement of this overall target will be tracked through an EU climate marker system at an appropriate level of disaggregation, including the use of more precise methodologies where these are available. The Commission will continue to present the information annually in terms of commitment appropriations in the context of the annual draft budget.

To support the full utilisation of the potential of the European Defence Fund to contribute to climate objectives, the Commission will seek to identify relevant actions throughout the Fund preparation, implementation, review and evaluation processes.

• Date of application

This proposal provides for a date of application as of 1 January 2021.