Commissioner for financial stability, financial services and capital markets union Jonathan Hill has recently revealed details of the capital markets union (CMU) and rather than offering a way out of economic stagnation, this bundle of measures unfortunately risks repeating the same errors made prior to the crisis.
It also diverts political energy from what the European Union really needs, a new start. This would require strengthening the traditional relationship-based banking model, stringent financial sector regulation as well as serious public investment to kick-start a broad-based recovery and facilitate private investment.
"Rather than offering a way out of economic stagnation, [CMU] unfortunately risks repeating the same errors"
Only after the damage austerity has caused will enterprises demand credit and banks will feel safe lending again as a 'real' economic recovery takes hold.
The commission claims CMU should close the capital market gap between the EU and the US but this is comparing apples and oranges. European industry has traditionally been more reliant on local banking than the capital markets as companies are on average smaller and the market is more fragmented along national and legal lines.
Given the higher costs of capital market financing for small and medium-sized enterprises, the current banking-based model serves the EU economy well. Local and regional banks also help to limit systemic risks in the financial sector through reduced complexity and interconnectedness.
Moreover, despite the arguments of CMU proponents, improved growth in the US is grounded in expansionary fiscal policies as well as dealing swiftly with the banking crisis rather than the structure of the financial market. To the contrary, most studies find that the relative size of the financial market beyond a certain threshold negatively affects growth.
What should be welcomed, however, is the revision of the prospectus directive in order to strengthen financial consumer protection. I would also welcome if investors chose to use their long-term liabilities for market making where they accept the risk of holding a certain number of shares of a particular security in order to facilitate trading in that security.
Simple and transparent securities, such as bonds have a limited role to play in the financing of the real economy and endless securitisation chains have proved toxic in the crisis.
The pooling and repackaging of credit has increased uncertainty, complexity and created conflicts of interest as well as the risk of contagion. The commission claims to facilitate the growth of the market with the proposed CMU. However, this seems to rely on the European central bank (ECB) regularly buying securities to provide liquidity. If those papers were really as safe as Hill promises, they should find plenty of willing private investors.
Of far more significance is that EU policy is strangling investment through austerity programmes and deficit and debt ceilings while, in the financial sector, sound deposit and lending operations still subsidise 'systemically important' casino banks. To ignite growth and create new jobs in the EU, these impediments to investment have to be resolved.
Public investments should be partially financed by ECB-backed bonds via the European investment bank. The structural reform of banks should remove the implicit subsidy for market speculation by separating core banking from investment banking, therefore recovering the 'hidden tax' on lending to the real economy. CMU is therefore the wrong medicine for combating this ill.