Germany: on board for a United States of Europe?

Covid 19 has brought hardship and suffering to many. But, at the risk of sounding cliched; it’s an ill wind that blows no man any good. If a recent discussion with German Finance Minister, Olaf Scholz, is anything to go by, there are strong signs that the pandemic will prove a catalyst to the kinds of fundamental changes in the EU project that were previously unthinkable. Not only has corona provided strong impetus for further EU integration, it has apparently provided the excuse Germany was looking for to truly embrace the European project. With the issuance of mutualized debt, Germany has finally put its money where its mouth is, showing Europe and the rest of the world, it’s in it for the long haul. Now, the man touted to take over from Angela Merkel, is making it clear that fiscal union is his goal.

Olaf Scholz spoke last week at the Bruegel Institute’s Annual Meeting. As Vice-Chancellor under Merkel and the Social Democrats’ candidate for Chancellor, Scholz has been described as ‘the head fireman in the coronavirus inferno’. In Germany his approval ratings are high and have been that way for months. If, as Scholz claims, ‘Europe has shown a strong response to the crisis’,  Germany has played a key part in that response. However he admits that Europe’s initial response was not so convincing. He cites the relative speed and strength with which countries like Italy and Spain were hit by the virus, as reasons for this and acknowledges what he terms, ‘some nationalistic reflexes’ to the pandemic when borders were closed. Perhaps more significantly, Scholz points out that the pandemic raised questions about the ability of open, liberal, democratic societies to deal with a crisis such as this one.  

‘Solidarity is the cornerstone of the EU’ – Scholz

But Scholz states firmly, more than once, ‘Solidarity is the cornerstone of the EU.’ In order for recovery to be truly successful, ‘we must recover together and use it to reform our economy.’ The German Finance Minister, sees investment as key to recovery but insists that it be the right kind, namely ecological and digital. He also sees Germany’s current Council presidency as an opportunity to drive the Recovery Fund and the EU’s Next Generation programme forward. The mutualized debt that anchors the EU’s recovery programme, elevates Europe’s financial policy to ‘a whole new level’ Scholz insists and ‘moves us closer to fiscal union’. Fiscal union is something that fell on deaf ears during the financial crisis of 2007/8. For members of the Frugal Four (Netherlands, Denmark, Austria and Sweden) it is still a cause for concern.

But Herr Scholz is unwavering in his commitment to this newly accepted goal. ‘Achieving fiscal union will complete the economic and monetary union, and in this way we can ensure the financial independence of the world’s largest trading block, putting us at a similar level to the US.’ To this end, Scholz envisages the need for a minimum corporate and digital tax.  After the Euro, the issue of taxation is one of the last bulwarks of national sovereignty. Previous German finance ministers would no doubt have shuddered at the idea of tackling it at EU level. But this one is calmly resolute as he explains that current debates within the OECD on minimum taxation should be concluded by year end. He is hopeful that agreement at an international level will help provide the necessary impetus for agreement at EU level. A similar process is expected with digital taxes.

‘The recovery fund is a remarkable instrument that is pushing European integration in a whole new way’ – Scholz

Corona has provided not just a strong impetus for further European integration, it also comes with a sell-by date. Although Scholz agrees on the importance of maintaining the no bail-out clause, he is equally firm on the need for speed when it comes to releasing the recovery funds by the beginning of next year. He acknowledges that the debates that will take place in order to reach agreement on this, will not be easy. Specifically, those regarding the role of the European Parliament, with which discussions have just started.

The somewhat uninspiring pragmatism of which Scholz has previously been accused, now appears to be standing him in good stead. He points out that with the acceptance of mutualized debt, further EU integration has gained a momentum of its own. Describing the recovery fund as ‘a remarkable instrument that is pushing European integration in a whole new way’, Scholz appears almost sanguine at times. The inevitability of the structural changes set  in motion, will make his task significantly easier.

There is nothing like shared debts to bring people and nations together. Europe’s shared responsibility for the debt generated by corona recovery, is providing impetus for important projects that have hitherto lacked the necessary political will for completion. The Capital Markets Union (CMU) and the Banking Union are vital to a vibrant yet stable, European economy. The finance minister agrees that a willingness to reform is key to real progress on the CMU project. It’s completion is essential for the growth that is needed to refinance debt and ensure future  prosperity. To this end, he is working hard on a variety of blueprints for successful integration of Europe’s capital markets. When asked about the issue of governance and supervisory powers at national or European level, he is expansive – ‘let’s do both!’

‘For me, a strong united Europe is Germany’s primary national interest’ – Scholz

For Olaf Scholz then, this is a decisive moment both for Germany and for Europe. ‘For me, a strong united Europe is Germany’s primary national interest’. Looking ahead to 2050 and beyond, Scholz sees a strong, more fully integrated Europe as the only way to ensuring its sovereignty. He is also unconvinced by narratives of a bi-polar future in which China and the US dominate. He points to the rising fortunes of a number of Asian countries including India and mentions countries like Nigeria and Brazil too. A far more fragmented global landscape is Scholz’s vision for the future. In such a landscape, a unified Europe will stand strong and enjoy continued prosperity. Let’s hope he’s right.    

Capital Markets Union

Boosting Capital Markets Union to fund EU’s post-corona recovery?

Covid 19 is expected to result in the worst economic recession since the European Union began. Capital Markets Union (CMU), begun in wake of the last economic crisis, could help to significantly counter some of the worst long term effects of this recession. But harmonizing the capital markets of 27 separate member states, is no simple task. The loss of London’s more developed markets, post-Brexit doesn’t help. A recent report from high-level working group led by Thomas Wieser at the request of the European Commission has been well-received by experts. But the American Austrian economist warns of watering down by the EU Council and the Parliament. .  

Capital markets provide deep pools of liquidity that act as a spare tyre for the economy in times of crisis. They also help nurture innovation and economic growth by facilitating optimal distribution of savings to investment-hungry businesses. The world’s first stock market developed in Amsterdam. But today, Europe is highly dependent on bank lending, which is almost twice as high as in the US and amplified the scale of the 2008 crisis. This is partly because European capital markets are underdeveloped compared to the US. What this means in real terms is that European SMEs receive five times less funding from capital markets compared to their US counterparts It also means that innovation and growth of small to medium size enterprises in Europe are stifled.

The advantages of Capital Markets Union are many.

In Europe, there are dozens of small, relatively undeveloped capital markets. It is difficult, for example, for a young tech entrepreneur in Slovenia to find financing at home. Yet there may well be investors in the Netherlands or France who would be eager to risk some of their spare cash in his start up.  Although riskier, such investment options provide better returns than simply leaving your money in the bank, particularly when interest rates are low. They also provide investors, large and small, with a wider range of investment options, for example small green start-ups. Portfolios can thus be diversified, lowering risk levels.   

Although some progress on Capital Markets Union has been made in the last 5 years, Wieser agrees that Europe still has 27 capital markets rather than just one. With Brexit, the more liquid capital markets of London can no longer be used as a hub around which to work. However, it also means that the field is now open for what Wieser terms a more ‘polycentric’ financial landscape. The former Eurogroup Working Group President predicts that if all of their 17 clusters of suggestions were implemented, Europe would see ‘a significant increase in capital market supply and demand’ within 5 years. European citizens wouldn’t be confined to the small national markets but would have a wide range of options spanning the Union. This in turn, would stimulate additional demand as will the recent move toward mutualized debt post-corona.

What are the major obstacles to Capital Markets Union?

These fall into three major categories – technical, of which there are many requirements, cultural and political. The first forms the central focus of the high-level group’s report although many of the technical adjustments needed will require political input. Wieser highlights the need for improvements in national solvency laws, including the process of refunding withholding taxes. He also highlighted the need to improve access to information on both listed and unlisted companies. This would also help reduce listing costs for SMEs, currently very high in Europe.

There is also the issue of regulation. Some countries have weak audit quality, overly complex procedures and unduly high tax rates. Both Wieser and member of the Board of Appeal of the European Supervisory Authorities, Professor Niamh Moloney, agree that smart supervision at both national and pan-European level is crucial. A balance between adherence to the law and nimble, flexible supervision is key. As is the need to ensure the independence and increased authority of the European Securities Market Authority (ESMA). At present, ‘the governance of ESMA is not conducive to hard-nosed European supervision’ states Wieser, citing a lack of independence and supervisory powers.  

Europe must aim for ‘new digital age Capital Market’ – Thomas Wieser.

Bringing about convergence of national legislation is no easy task. Apart from the obvious political obstacles, there is the problem of varying levels of implementation.  A single European law can result in several different versions in practice at Member State level. Wieser explains that, for this reason, a move away from directives to regulation, which are more binding, would be beneficial. Although the latter run the risk of becoming more politicized.

This is where digitization can play a useful role. Thomas Wieser proposes the creation of ‘a new digital age capital market’. ‘If we do it all together, we can make Europe the leading jurisdiction for all of these future initiatives’, he emphasises. Digitization can significantly help reduce the cost of information sharing and streamline many of the technical procedures that are vital to the smooth running of efficient capital markets.

Europeans need to be less risk averse and invest in capital markets rather than leaving it in the bank.

Equally important are the political and cultural aspects of this initiative. Thomas Wieser points out that in order for Capital Markets in the EU to grow, the public has to become more interested in investment. At present, most Europeans opt for the safer bank deposit option or low risk funds recommended by investment advisors. A culture that is more open to risk taking needs to be nurtured. At the same time, a wider range of cross-border financial products need to be monitored for quality and the public educated as to their risks.

Back in Brussels, Wieser is hopeful that the Commission will be supportive of his recommendations. But he is less optimistic about the Council and the EU Parliament. Drawing on 25 years of EU working experience, the economist  sagely describes the progress of many such reports. They move from the Council, where ideas are often ‘sliced away like pieces of salami’ across the road to the Parliament where ‘it might finish looking like a great cheese!’ He laughs, but it is a working reality. Finding consensus among 27 Member Sates is never easy but when time is of the essence, it becomes imperative.