Located in sleepy Luxembourg City, the European Investment Bank is one of the most under-reported institutions of the European Union. I have heard even seasoned Brussels hacks confuse it with its better-known sister 185km further to the east, the European Central Bank.

Yet over the course of the credit crisis it has substantially increased in importance. Under political pressure to play a more active role in supporting credit-constrained banks and enterprises – not least of all from British Prime Minister, Gordon Brown – the Bank’s annual loan target has been raised from €45bn to €75bn, a hefty 0.5% of European Union GDP. As US Senator Everett Dirksen is widely attributed to have said, a billion here, a billion there, and pretty soon you’re talking real money.

Why this dramatic expansion in the EIB’s lending power? There is a simple answer. In the absence of other institutional channels, the EIB has become a European lender of last resort. The Commission has been utterly powerless to respond to the financial crisis, thanks to its multi-year 1.048 per cent of GDP budget cap. The European Central Bank is more naturally suited to the role of emergency lender, but has not engaged in asset purchases or quantitative easing along the lines of the Federal Reserve or the Bank of England, in part due to the reservations of monetarists on its Executive Board.

That has left the EIB as the last link in the European institutional chain. The Governors of the European Investment Bank’s board are not hawkish monetarists, but the finance ministers of the EU’s 27 member states, and they directly appoint its Directors. Unsurprisingly, they have been very eager to throw maximal resources at encouraging lending to European business and enterprise. Their enthusiasm is aided by the fact that, in the short term, exploding lending via the EIB is a costless solution: funds can first be raised on international credit markets, even if the increase in leverage must later be redressed by either recycling profits toward the bank’s capital base or a future round of taxpayer replenishment.

This leaves the 64bn euro question: when the crisis subsides, will the EIB revert to its initial mandate as a minor developmental bank, or could its competencies be expanded yet further? The gradual expansion in the EIB’s responsibilities opens intriguing prospects for its future role in a post-crisis Europe. There are strong arguments in favour of such a move.

The first is that the eurozone needs an emergency lending fund, a form of ‘European Monetary Fund’, and the EIB could fit the bill. Such an institution will have a specific responsibility to address sovereign debt and banking crises within the Eurozone and the European neighbourhood. As Professor Buiter has proposed in his Maverecon blog, such a policy requires no reform to the European Investment Bank mandate: treaty Article 267 already stipulates that the European Investment Bank will grant loans and give guarantees which facilitate, inter alia, “projects of common interest to several Member States which are of such a size or nature that they cannot be entirely financed by the various means available in the individual Member States.” A eurozone monetary fund fits such a description, and could be easily fit within the existing EIB apparatus.

A second is that the European Union cannot afford to operate forever under the constraints of the 1.048 per cent of GDP limit that is imposed on the European Commission. Such a cap is intended to prevent waste, but it also prevents the very real and important activities that can only operate at a European level, such as cross-border banking recapitalisation. How would such an institutional evolution operate? Some ideas can be taken from the way in which the World Bank has steadily expanded its mandate, for example the precedent of the International Development Association (IDA), launched in 1960, by which monies are periodically pledged by donor countries and distributed through grants and subsidised loans. A similar initiative from the European Investment Bank could be a fund with a mandate to provide subsidised support to struggling regions of the European neighbourhood. Over time, the Cohesion fund managed by the Commission could be transferred to such an agency, thereby allowing the Commission to pursue new objectives under the roof of its 1 per cent of GDP limit.

The third rationale is that it would alter the political economy of European Union membership, by transforming net contributors overnight into net recipients of European monies – all via the magical power of credit. To see how this works, suppose that in each year EIB loans were equal to 1 per cent of GDP, in credit-constrained states such as Britain, or in future, Iceland or Switzerland. If a condition of exit from the European Union were that any state would have new credits from the EIB frozen, until a new treaty of association were signed several years later, this would impose an extremely harsh short-term cost on any government seeking exit from the European Union. In effect, to do so would risk an immediate financial crisis, as existing business loans would not be rolled over. Just as no developing country would risk jeopardising its relationship to international lenders, in such circumstances, no government of a credit-constrained member state would ever dare a ‘bust up’ with the European Union.