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.

How to democratize Europe and prevent future Brexits.

Europe is in need of a ‘democratic transplant’. So says Sorbonne Professor, Antoine Vauchez, co-author of the Manifesto for the Democratization of Europe (2018), now translated into 9 languages.  Signed by over 100 000 people, the Manifesto to democratize Europe was co-written with world renowned economist, Thomas Piketty and two other French academics.

The manifesto has been followed by a draft budget for Europe. Fixed at 4% of GDP and composed of 4 key taxes (on high incomes, on wealth, carbon emissions and a harmonized corporate profits’ tax). With this money, the authors propose that four key social issues can be addressed: climate change, refugees, training and education and reimbursement for those eurozone countries hardest hit by the financial crisis. This manifesto grew out of the French elections of 2017, when Piketty was asked to provide the French socialist party with an outline for a European programme of reform.

‘Our ideas may not be perfect, but they do have the merit of existing.’ – Piketty

The manifesto to democratize Europe has since undergone several changes and revisions in light of feedback. But as Piketty pointed out in an article in the Guardian (2018), ‘Our ideas may not be perfect, but they do have the merit of existing. The public can access them and improve them.’ It was in a similar spirit that his co-author, Antoine Vauchez, spoke last night in Amsterdam. There is no doubt that many of the suggestions are bold, especially by the staid standards of the European Union. Perhaps most striking is the call for what is termed a new sovereign European Assembly.

National elections would be transformed into European elections.

This new European parliament would have substantial budgetary and legislative power. It would be made up largely of members of national parliaments (80%) with just 20% drawn from the existing European Parliament. This split is however open for further discussion. In order to democratize Europe, national elections would thus become European elections. It would also mean that national politicians would no longer be able to simply shift responsibility on to Brussels. They would be forced to explain to voters the projects and budgets they intended to defend in the European assembly.

‘ Britain will never truly leave the EU’ – Vauchez

The idea behind these proposals, is a reuniting of political and economic power at a European level. This would help ensure that Europe would be better equipped to deal with future crises of the kind experienced in 2007/8. It would also provide both the economic and political power to promote a more socially just and inclusive union. In such a Union the rise of populism, including Brexit, may well have been avoided, Vauchez agrees. The French academic told me however that he is not convinced that Britain will ever truly leave the EU. ‘There is simply too much shared history’ he maintains.

The underlying assumption behind this vision, is the importance of reconnecting ‘the economic governance of Europe with the representative project’ as Vauchez puts it. The French professor argued that the dominance of the economic governance of Europe, centering on the creation of the Euro itself, has resulted in a corresponding decline in issues of political governance. The political and the social have continued to function almost exclusively at national level. Perhaps this is not so surprising, since the Eurozone started as an almost exclusively economic project. The creation of the European Union was preceded by that of the European Economic Community (ECC) in 1957.

‘The European economic elite have helped keep democratic control at bay.’ – Vauchez

However as Vauchez pointed out, ‘our starting point for this Manifesto was that Europe has changed profoundly since the Maastricht Treaty and the creation of the single currency’. Piketty and his co-authors are concerned about the rise of a European economic elite. A group who have helped to create institutions that ‘keep democratic control at bay’ as Vauchez puts it. Irrespective of political orientation, few would disagree that the Eurozone has found itself ill-equipped to deal with a variety of significant crises in the past decade. These include the financial crisis, the refugee crisis and the Brexit crisis.

These French academics argue that the current institutional framework of the European Union make dealing effectively with such crises almost impossible. In particular because the veto right of each country prevents any common fiscal policy. It is difficult to disagree. But this tension between political and economic sovereignty sits at the heart of the European project. The guarantee that member states would retain their sovereignty with regards to tax, pension systems and political structures, formed the basis for a willingness on the part of many, to proceed.

Northern member states reluctant to bail out their southern counterparts.

The so called North/South divide is evidence of this. Many Northern nations feel strongly that they will find themselves having to bail out their less prosperous southern counterparts. This is a highly complex issue that is further complicated by the inclusion of various East European member states. But it does not alter the fundamental question: has the European Union reached a point where further progress cannot be made unless member states commit to greater democratization? It is tempting of course to continue tinkering with the current structure as various members of last night’s panel suggested. ‘Looking for silver bullets’, Vauchez calls it. But history suggests that fortune tends to favour the brave.