The European Commission unveiled on Wednesday (30 September) its strategy to strengthen capital markets in Europe, and thus reduce the “very high dependence on bank funding”, as President, Jean-Claude Juncker put it, when he took office last year.
As part of a broad package of initiatives to be implemented by 2019, the Commission will adopt a set of measures to support venture capital and risk capital financing in the EU, including the promotion of best practices on tax incentives to attract investors.
More controversial will be the opening up of financial services to the securitisation market, as part of the EU strategy to diversify its sources of financing by “revitalizing” the financial product behind the financial meltdown in 2007-2008.
The executive will amend the regulation on European Venture Capital Funds (EuVECA) and the European Social Entrepreneurship Fund (EUSef) legislation to allow larger fund managers to establish and market EuVECA and EuSef funds, as they are presently limited to portfolios below 500 million euros. The Commission will also put forward proposals for a pan-European venture capital fund-of-funds, and multicountry funds.
With a portfolio estimated at 60 million euros, the average European venture capital fund, is only half the size of US-based funds. And this small market is highly concentrated. Up to 90% of venture capital firms are concentrated in eight member states.
The European Commission believes that if venture capital markets were as deep as they are in the US, companies in Europe could have had access to around 90 billion euros between 2008 and 2013.
This is only one of the building blocks of a wider strategy that the Commission started to prepare last February.
“Compared with the US, European SMEs receive five times less funding from capital markets”, the Commission’s communication says. Although the private sector and financial market players agreed on the need of bolstering the capital markets in Europe, for some it was unclear how to achieve it.
In order to progressively build up the Capital Markets Union (CMU) by 2019, the Commission presented a 33-point list, with specific deadlines. The package includes the review of regulatory barriers for the admission of SMEs on public markets, a review of the corporate bond markets in the EU, and proposals to strengthen the use of innovative instruments, such as crowdfunding.
The long-term nature of the project has sparked some skepticism among financial players. The executive is aware of the need to move quickly. But before adding more pieces of legislation, the executive wants to assess the cumulative impact of the vast legislative work made over the last few years, during the financial crisis.
Charming the banks
Although the communication aims at minimizing the weight of the bank financing in Europe, some of the first proposals intend to strengthen banks’ lending capacity.
“Developing our capital markets is a way of complementing existing sources of bank funding and not replacing them,” the Commissioner for Financial Services, Jonathan Hill, told the European Banking Federation’s annual conference on 17 September.
The Commission acknowledges that banks will continue to be an “important source of funding” due to its “strong local relationship and knowledge” of SMEs. Therefore, the package includes measures to “revitalize” the controversial securitisations market.
The proposal acknowledges that these financial products have been damaged by the subprime scandal, responsible for the financial meltdown in the US in 2008.
“There is no intention to undo EU reforms addressing the risks inherent in highly complex and opaque securitisations. However, it is important that securitisation is revived to ensure that it can act as an effective funding channel to the wider economy and mechanism to diversify risks,” the text said.
According to the Commission’s estimates, if the securitization market is revived to pre-crisis levels, banks could provide an additional 100 billion euro in credits to the private sector.
In order to succeed, sources from the financial sector and EU officials noted that restoring trust will be key to sustaining the development of the Capital Markets Union in Europe, where recent scandals have also cast a shadow over its future.
In Spain, the collapse of Gowex, a WIFI provider, put into question the junior stock market MAB, where the company was trading. The company admitted it had falsified its accounts as it was leaked by an anonymous financial analyst.
Wim Mijs, Chief Executive of the European Banking Federation, welcomed the proposal: “It’s exactly this type of policy action that we need in Europe," he said on the eve of the presentation. The capital markets union is “an excellent example of how policies can boost growth instead of restricting it”.
The EPP welcomed today's law proposal for rules on transparent securitisation. MEP Burkhard Balz said: "The new rules must allow a broader diversification of funding sources and distribution of risks. We want banks to lend more to SMEs. We do not want to Americanise businesses' access to finance."
Monique Goyens, Director General of The European Consumer Organisation (BEUC), commented: “If the Commission intends to encourage consumers to fall for financial markets, upgrading investor protection must be the preeminent concern."
MEP Kay Swinburne, European Conservatives and Reformists Group economics spokesman, welcomed the plans: "The European Commission is finally putting the post-crisis phase behind it and looking at ways to deliver real business-led growth and the flow of capital across Europe's borders."
BUSINESSEUROPE Director General Markus J. Beyrer said: “We should urgently implement many of the excellent European Commission proposals. This will lead the EU economy towards the path of an investment-led, sustainable growth."
The Secretary General of Finance Watch, Christophe Nijdam, commented: "The shift in political momentum from "we need to regulate shadow banking" to "we need to promote shadow banking" must not be at the cost of financial stability and more risks for taxpayers."
Michaela Koller, director general of Insurance Europe, said: "While they are a step in the right direction, these changes are not enough to remove the barriers to investment by insurers." In her view, the capital charges for both debt and equity infrastructure investments remain significantly in excess of the actual risks which these assets pose to insurers’ portfolios.
Simon Lewis, Chief Executive of AFME, stated: "The wide-ranging plan sets out key initiatives to improve funding conditions for EU companies, particularly SMEs, and for essential infrastructure projects. The Commission’s plans will tackle major barriers to cross-border investment arising from tax, insolvency law and fragmented market structures.”
John Allan, National Chairman for the Federation of Small Businesses, said: "Some of the initial measures in this action plan are promising, notably around encouraging cross-border angel investing, sharing credit data, promoting securitisation and modernising the Prospectus Directive."
Dörte Höppner, Chief Executive of the European Private Equity and Venture Capital Association (changes to Invest Europe 1st Oct) stressed that venture capital is "the engine driving the growth of companies such as Spotify, Delivery Hero and Farfetch." Therefore, "the European Commission is right to place venture capital funding high on its Capital Markets Union priority list.”
Managed Funds Association (MFA) President and CEO Richard H. Baker applauded the Commission´s initiative "for taking on this initiative and recognizing the value the globally-regulated alternative investment industry and other capital market participants can play towards this shared goal."
In February 2015, Lord Jonathan Hill, Commissioner for Financial Stability, Financial Services and Capital Markets Union (CMU), unveiled a green paper as part of the process to establish a Capital Markets Union.
The aim is to develop a financing system to complement the banking system, unlock capital across Europe giving more investment choices, and establish a market whereby investors can use their funds across borders without hindrance. One of the concrete proposals is to make it easier to raise funds for the bloc's flagging economy through markets, rather than banks.
Call for evidence on the cumulative impact of the financial reform: Third quarter of 2015
Proposal on simple, transparent and standardised (STS) securitisations and revision of the capital calibrations for banks: Third quarter of 2015
Consultation on an EU-wide framework for covered bonds and similar structures for SME loans: Third quarter of 2015
Proposal to modernise the Prospectus Directive: Fourth quarter of 2015
Green Paper on retail financial services and insurance: Fourth quarter of 2015
Report on crowdfunding: First quarter 2016
Study on discriminatory tax obstacles to cross-border investment by pension funds and life insurers: 2017
Study on tax incentives for venture capital and business angels: 2017