CMU ft

According to the EU’s 2015 plan for Capital Markets Union, the financial markets of EU member states should soon be working in harmony to “unlock funding for Europe’s growth”. CMU, conceived to reduce the EU’s reliance on bank borrowing in the aftermath of the financial crisis, was meant to be complete by the end of next month. There are two snags. First, EU growth is anaemic (now barely 1.5 per cent). Second, the target of weaning companies off bank loans and bolstering the issuance of shares and bonds instead, has been an embarrassing failure. While some legal reforms needed for CMU are in place, others are not, ensuring that even if the road map to deliver the project were credible, the EU has become lost along the way. According to the Association for Financial Markets in Europe, the region’s reliance on bank lending has actually increased. Last year, 88 per cent of companies’ new funding came from banks, and only 12 per cent from capital markets, a 2 point deterioration from the average of 2013-17. Brexit, which will strip the EU of its key financial centre, can only make matters worse, at least in the short term. No wonder some of the EU’s key economies have been trying to shock the CMU project back to life. Last month, a “high-level” group representing France, Germany, Italy, Spain, the Netherlands and Poland made some radical-sounding recommendations to boost European financial markets. The so-called “Next CMU High-Level Expert Group” called for a “massive” boost to equity markets, an enlargement of local investment opportunities, more “financial flow fluidity” and a push for the euro as a global currency. The Next CMU report skates over the failure of the project to date and proposes a “priority shift”: away from “revitalising the EU’s capital market ecosystem” towards a “new phase [that] gives priority to responses of citizens’ needs and to the investment in the real, digital and sustainable EU economy”. Top marks for the buzzwords. To consolidate the new approach, the report recommends ditching the CMU name and rebranding it as the Savings and Sustainable Investment Union. Hot air aside, there are some good proposals in the 20-point plan. There is a general call for some of the regulatory initiatives of recent years — notably Solvency 2 in insurance and Mifid 2 in the investment arena — to be tweaked to reduce unwelcome consequences (such as curtailing equity research into small businesses and deterring long-term investors from making long-term investments). Addressing a standing gripe of financiers, the report also says the playing field for securitisation should be levelled with “covered bonds” — debt backed by a specific pool of assets. That could help banks that are overburdened with certain forms of lending to offload it through tradable products. In addition, it would signal an openness to the global investment banks that dominate the securitisation markets and a shift away from reliance on domestic European banks. Whether such an agenda is deliverable is another question. Other elements of the new CMU initiative — the idea of protecting savings and encouraging internal investment opportunities — suggest protectionist tendencies. Given some perceived isolationism in the broader rhetoric of the EU, financiers in London doubt that the region is really ready to be integrated more fully into global capital markets. To be inward-looking is, of course, in vogue. Brexit itself reflects a desire to “take back control” from a broader European power base. And Donald Trump was propelled into the White House by his protectionist “Make America Great Again” appeal. These dynamics, as well as growing concerns about cyber risk and the rise of China, appear to be spurring the EU’s more self-determined agenda. In recent years, a more fragmented approach is already on view in banking regulation: national supervisors often demand ringfenced capital and funding. That has raised costs for banks and, in turn, for their clients, as well as exacerbating asset bubbles, as evidenced in the UK mortgage market: ringfenced deposits are being recycled into a wave of home loans, causing a vicious price war in the most important market for Britain’s retail banks. If the 2008 crisis highlighted the dangers of untrammelled global markets, the new European Commission would do well to reflect that the opposite reflex, isolationism, is not only inefficient but produces more concentrated risks of its own. An ineffective CMU is one thing. A counterproductive one is quite another.

The need to deepen and complete European banking union is undeniable. After years of discussion, the deadlock has to end. Therefore, I am calling on the EU to act now to strengthen Europe’s sovereignty in an increasingly competitive world. Now that the UK, home to London’s capital markets, is on the verge of withdrawing from the bloc, we must make real progress. Being dependent for financial services on either the US or China is not an option. So if Europe does not want to be pushed around on the international stage, it must move forward with key banking union projects, as well as the complementary project of capital markets union. It is in all our interests to have a fair, well-designed and secure banking union that guarantees stability and enhances growth in all member states, while at the same time protecting taxpayers’ money. We have already accomplished some important steps. We have established single European supervisory bodies and significantly increased capital levels. We have also set up a framework to restructure failing systemically important banks without endangering financial stability or having to use public funds. However, we are only halfway through this project. European financial markets are still fragmented, and barriers to the free flow of capital and financial liquidity still exist. We have discussed these issues intensively in recent years, to no avail. Now it is time to put together a package to complete the banking union. This has four steps. First, we need common insolvency and resolution procedures for banks, building on the example of the US Federal Deposit Insurance Corporation. This means making instruments that have proven useful to large banks available to small banks too. This could include bridge banks. Where competition within the single market may be distorted, the Single Resolution Board should be involved. But the Single Resolution Fund would still not apply to non-systemically relevant institutions. We already have common resolution rules for large, systemically relevant banks in Europe. Smaller banks, however, fall under the different national insolvency laws. A single insolvency framework for banks would reduce frictions. Moreover, it would be a genuinely European solution. We should allow for deeper integration of EU banking groups, while duly taking into account host countries’ interests in fair burden-sharing. Second, ensuring a stable banking sector means further reducing risks. This means further reducing the number of non-performing loans and tackling the risks associated with sovereign debt. Sovereign bonds are not a risk-free investment and should not be treated as such. Recommended Position paper on the goals of the banking union Banks should have to make provision for risks arising from sovereign debt within an appropriate transition period. We should introduce capital requirements reflecting credit and concentration risks from sovereign exposures on banks’ balance sheets in a careful, gradual manner without threatening financial stability. Over time, banks all over Europe would build up more diversified portfolios of sovereign bonds. Doing so would enhance their stability. This approach would help countries with weaker credit ratings. Third — and this is no small step for a German finance minister — an enhanced banking union framework should include some form of common European deposit insurance mechanism. A European deposit reinsurance scheme would significantly enhance the resilience of national deposit insurance. Recommended Positionspapier zum Zielbild der Bankenunion However, such a scheme would be subject to certain conditions, one of which is that national responsibility must continue to be a central element. In the case of a bank failure, a three-tier mechanism would apply. First, the resources of the national deposit guarantee scheme would be used. Second, where national capacities have been exhausted, a European deposit insurance fund, administered by the SRB, would provide limited additional liquidity through repayable loans. Third, where additional financing may be necessary, the relevant member state would step in. A limited loss coverage component for the European deposit insurance fund could be considered, once all the elements of the banking union have been fully implemented. Last but not least, we have to intensify our efforts to prevent arbitrage. Tax law still distorts competition within the EU. This is why Germany, together with France, is calling for the adoption of a common corporate tax base and a minimum effective tax. Progress with banking union must not lead to competition-distorting tax arrangements. We need uniform taxation of banks in the EU. European policymakers are aware that there is a strong case for further improving the institutional and regulatory framework in order to reduce risks in the European banking sector. So far, we have failed to deliver. Now, taking advantage of the fresh energy supplied by a new European Commission, and with Brexit just around the corner, it is time for a change. Let us redouble our efforts and finish the job. We need to end the deadlock.