Authors: Carsten Kengeter, CEO, Deutsche Börse Group
I begin with a question: What is the EU’s Capital Markets Union (CMU) project all about, what is it for?
On one level, the answer is very simple. It’s about helping the European economy grow.
But what does that actually mean in practice?
Despite the relaxed monetary policies of the last few years, SMEs in Europe still face a credit crunch; a funding bottleneck. In the current financial climate, they simply can’t obtain the finance they need to start and to grow. A recent analysis (based on figures provided by the European Central Bank) shows all too clearly that between 2010 and 2015, the availability of bank loans for SMEs tightened. This is very serious: More than half the jobs in the EU are provided by firms with fewer than 50 employees. This situation is most severe for fledgling enterprises. More than 12 percent of SMEs less than two years old, reported deteriorating loan availability. This compares with 5-6 percent of older SMEs.
Is this difference significant?
It is very significant. Between 2001 and 2011, no less than 41 percent of all new jobs in countries were created by SMEs less than two years old. This compares to the 33 percent created by older firms of the same size. The conclusion is clear. We need SMEs, and we need new, young SMEs. But without adequate funding, that simply isn’t going to happen. That this matter is of the utmost urgency was highlighted by a recent investment bank report. This report tells us (in terms of recovery following the financial crisis of 2007-2008) the euro area has lagged way behind both the U.K. and the U.S. In the U.S., real GDP took just two-and-a-half years to get back to its 2008 level, in the U.K., it took five years. However, in the euro area, economic activity still languishes below pre-crisis levels. Even more worryingly (according to estimates by the International Monetary Fund), potential growth in the euro area is just 1.5 percent compared with 2.5 percent in the U.K. and the U.S. As I said, we need SMEs, and we need new, young SMEs. The CMU can help overcome this.
What innovative entrepreneurs need more than anything else is a network of bridges to the capital markets and investors.
As we know, innovation is the mainspring of economic growth. Therefore, Europe needs innovation, it needs innovators and it needs entrepreneurs. Which leads us to the fundamental question: Is there a way to incentivize entrepreneurship and innovation? Most emphatically, yes! What innovative entrepreneurs need more than anything else is a network of bridges to the capital markets and investors. And, of course, capital markets and investors in turn need bridges to innovative entrepreneurs.
Who is best placed to build these bridges?
Market infrastructure providers. In fact, at Deutsche Börse we are already taking steps to support the goals of the CMU, indeed enabling growth in the real economy is an integral part of our mission. To put it bluntly, the CMU is not some arcane, bureaucratic project that will only impact on politicians, academics and those of us who work in finance, far from it. The CMU is about improving the lives of entrepreneurs, their employees and their families – improving the lives of real people right across Europe. If these innovative, entrepreneurial businesses cannot find the funding they need, the outlook for employment growth looks very grim. And here is where the CMU comes in.
In fact, at Deutsche Börse, we are already taking steps to support the goals of the CMU, indeed enabling growth in the real economy is an integral part of our mission.
A group of analysts at Goldman Sachs recently described the rationale behind the CMU project as follows: its aim is to develop “deep and liquid continent-wide capital markets to complement the banking sector [which] would support trend growth in Europe. Such markets can diversify and augment the financing and saving opportunities available to firms and households. By helping channel resources to more efficient uses, a better functioning financial sector (in general, and deeper securities markets in particular) can raise euro area economic potential, by boosting returns, strengthening investment and accelerating capital accumulation.”
But what would “diversifying and augmenting of financing and saving opportunities” mean in practice?
It could mean facilitating private placement of debt and equity issuance to support SME financing. High-yield bond markets offer the opportunity for companies to augment bank financing with public markets. However, while progress is being made, in general, Europe still lags well behind the U.S. in this area. In order to change this, institutions and households could be provided with new opportunities to invest in alternative financial instruments. This would create a savings pool that could then be channeled into new financing instruments.
The idea of course is not to replace banks, but to supplement them.
The funding bottleneck faced by fledgling SMEs in Europe is at least a part of the explanation for the fact that so many more new companies are founded in the U.S. each year than in continental Europe. In the U.S., we see about 400,000 new enterprises being established every year. However, in the large European economies such as France, Italy, Spain, or Germany, the number is dramatically smaller – between 60,000 and 90,000. Clearly, we have a lot of catching up to do here in Europe.
However, there is one notable European exception. With more than 500,000 enterprises created every year, the U.K. is not only (by far) the European frontrunner – it even outnumbers the U.S.
Post-Brexit, we need strong bridges across the Channel more than ever. And this is another reason why we need to implement the CMU project.
This underlines how we here in continental Europe have a great deal to learn when it comes to establishing an entrepreneurial culture. And it provides very strong reasons for maintaining a close dialogue with the U.K. even post-Brexit. In fact, post-Brexit, we need strong bridges across the Channel more than ever. And this is another reason why we need to implement the CMU project.
What is even more important, however, is the adoption of a pan-European approach, including the UK. Once again, this applies, not in spite of, but because of Brexit. The benefits of a single market in financial services stem from allocating savings to their most efficient uses on a European scale. Standards, rules and legal frameworks need to be applied on a pan-European basis to support cross-border activity. These standards would include, among others, insolvency rules and disclosure requirements.
A strong and competitive cross-border market infrastructure group would support financial markets across Europe. The planned merger between Deutsche Börse Group (DBG) and London Stock Exchange (LSEG) would create just such an infrastructure. Not only would it increase the capacity of markets to finance SMEs and the real economy, it would also underpin the systemic stability of the European capital market.
One of the arguments one hears against the merger is based upon the misapprehension that the CCPs of London Stock Exchange and Deutsche Börse Group would be operationally combined. They would not, the CCPs of London Stock Exchange and Deutsche Börse Group would remain operationally separate.
In addition, because they will share a common corporate structure, transparency will be increased, there will be improved real-time risk monitoring and enhanced regulatory oversight. All of these significantly increase systemic stability.
In conclusion, by engendering a Europe-wide innovation culture; by eradicating the funding bottleneck; by providing for a cross-border liquidity pool; and the increased systemic stability which the Deutsche Börse Group/London Stock Exchange merger would bring, CMU can provide the foundations for a European financial resurgence.