EU Defense Bubble Under Pressure After Germany Freezes New Military Aid For Ukraine

European defense stocks fell Monday morning following a report from the German newspaper Frankfurter Allgemeine Zeitung (FAZ) over the weekend. The new report revealed that Berlin had halted all new requests for military aid to Ukraine, citing a domestic budgetary crisis. 

Finance Minister Christian Lindner penned a letter to the German defense ministry on Aug. 5, explaining future military aid for Ukraine would no longer come from Germany’s federal budget but instead from seized Russian assets, according to the local paper, adding, the new moratorium on new military assistance to the Eastern European country is already in place.

In June, Germany and other G7 nations reached a preliminary deal to use $300 billion in Russia’s sovereign assets, which are currently frozen in Western financial institutions, to back a $50 billion loan for Ukraine. Negotiations on this new funding mechanism are still underway.

According to Politico…

Berlin, which is Europe’s main supplier of military aid to Kyiv, had already signaled a change in course on Ukraine last month, when the governing coalition of the Social Democrats, the Greens and the Liberals adopted a preliminary deal on a draft budget for 2025. The compromise seen by POLITICO detailed plans to slash future assistance to Ukraine by half to €4 billion to fulfill other spending priorities.

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Contentions over Ukraine aid reportedly deepened the rifts in the ruling coalition in Berlin, already tattered by weeks of internal fights over a series of issues from the budget to welfare. Green leader and Economy Minister Robert Habeck said this week he plans to run for chancellor as the Greens’ candidate in the 2025 federal election, casting doubt on the survival of the governing alliance of which he is a member.

“It’s quite obvious that this coalition has major problems finding common ground,” Habeck said regarding the recent disputes. “The ideas are falling apart.”

Following FAZ’s report on Linder’s letter, Michael Roth, chairman of the Bundestag’s Foreign Affairs Committee, told journalists that failing to provide new military aid for Ukraine under future federal budgets would send Kyiv “a fatal signal.”

In markets, the Goldman Sachs EU Defense Index is down 2% on the FAZ report. Following a multi-year run-up, the index has run into heavy resistance since early April. Single defense names like Saab (-6.3%), Rheinmetall (-3.5%), and BAE Systems (-2.7%) were all lower in the session. 

Goldman analysts warned in April about Rheinmetall’s high valuations.

FAZ’s report adds to the mounting resistance developing in the EU defense bubble. However, broadening war risks in Eastern Europe and the Middle East indicate that there might still be more room for the bubble to expand.