The second EU capital markets overhaul might not be in time for the impending recovery plan but is a must for its new post-COVID chapter, writes Sona Muzikarova, chief economist at GLOBSEC Policy Institute.
No stone should be left unturned as countries are gearing up for what will likely be Europe’s deepest economic slump in peacetime. The EU architecture is being shaken up at its core, as a joint fiscal instrument ceases to be an abstract aspiration of a handful of countries, and as astronomic sums of funds are being discharged to facilitate the post-COVID-19 recovery. Against such background, the timing is uniquely right to also move the slow-burn Capital Markets Union (CMU) policy dossier along. In good times, progress is being made slowly and in increments. Bad times require decisiveness and often yield significant policy leaps.
CMU is a flagship EU initiative to boost capital markets in the EU and create a single market for capital. On June 10, the European Commission published a report of the CMU High-Level Forum putting forth 17 policy recommendation clusters to get closer to a true EU internal market for capital. This constitutes the second Capital Markets Union (CMU) reboot at EU-level, after the 2015 launch and several calls for accelerated action since then.
Two major events require EU financial readjustment. For one, Europe has lost its single largest and feasible financial centre with Brexit. As no single continental replacement is shaping up, the fragmentation and heterogeneity of EU 27 financial markets is more of a problem than ever. Second, the post-COVID-19 recovery requires huge amounts of cash, not all of which can be viably secured through public schemes. This is especially true for financing green and digital transitions, which have perspired amid the recovery talks as the top EU policy priorities. Moreover, after the initial liquidity provision wave, additional (direct capital) will be needed to support overleveraged firms.
Deeper capital markets that diversify the financial system and reduce bank reliance are empirically less susceptible to crises and are linked to higher growth. Cross-border risk-sharing, especially in equity ownership, may act as an extra shock-absorber for countries. Now is the time to mobilize EU’s full policy arsenal, which includes tapping the CMU policy space to help relaunch the EU economy. The good news is that the German presidency at the Council of the EU may accelerate the CMU momentum and help achieve some tangible progress, as the financial market architecture is one of the presidency’s priorities.
Yet, despite these historically unique conditions to make progress, a few important barriers are to be overcome. The popular momentum and understanding are lagging. The capital markets agenda has partly been a slow-burn policy dossier because it is hard to politically package and sell. An average European voter has been brought up to put his or her extra money to a bank account, and the idea of capital or investing in equity is far-fetched at best. What I am getting at are two concepts, the lack of capital markets culture in Europe, and, the underwhelming financial literacy.
If the progress is to be sustained and deep-seated, these issues will need to be taken care of. So, besides technicalities regarding the hands-on rule and legal harmonization, policymakers need to amuse themselves with a more prosaic question: how can the CMU narrative be redrafted to make it more popular, digestible, and relatable? If deeper and more integrated capital markets can work harder for ageing Europeans’ pensions, for example, that might resonate with most and win their support if packaged understandably and attractively. Financial literacy is another important piece of the puzzle and should be a part of larger European education overhaul, along with skills for the new decade including digital literacy, improved participation in and performance at STEM subjects, etc. Separate targeted initiatives can be undertaken in liaison with the private sector to increase financial awareness.
Since the post-Brexit European capital markets will be multi-centric (i.e. London will be replaced by not one, but several financial centres), the streamlining of the current complexity of tax and insolvency rules is a must from the viewpoint of their practical viability. Moreover, if Europe aims to rely more on a healthy stratum of small and medium-sized enterprises (SMEs) for growth, capital markets are to play a key role in meeting their financing needs. Over-levered companies need direct capital injections post-corona. Capital markets can help financing start-ups and SME scale-ups, powering innovation-driven growth. To that end, simplifying and reducing listing costs for SMEs is key.
With the UK’s departure, the EU, additionally, must do some soul-searching on where it stands on fintech in the larger scheme of things. A streamlined European approach to the fintech market and related regulation/supervision corresponds well with the quest for closer integration. Furthermore, fintech-related disruptions of financial intermediation are already underway, the challenge is to direct them in such a way to be aligned with the goals as set out by the CMU. Overall, intelligent technologies can improve market transparency, reduce transaction costs of financial intermediation, improve access to finance, and create a better user experience. Big data can buttress supervision/regulation and suppress regulatory arbitrage.
The EU has a lot of catching up to do. Even if it moved fast, these changes would not happen in time to provide the backbone to Europe’s post-COVID-19 recovery. But tangible progress in this policy arena may be a vital ingredient in the much-resonating European resilience-building and may constitute a key strategic stepping stone in Europe’s new integration chapter.
The article was originally published on the EU Reporter website on 10 July 2020.