26 January 2015

Yves Mersch: Why Europe needs a capital markets union

Speech by Yves Mersch, Member of the Executive Board of the ECB, Euro Exhibition Osnabrück, 25 January 2015.

Europe’s economy is characterised by small and medium-sized enterprises (SMEs). They account for two out of three jobs and generate around 60% of value added. And precisely these enterprises finance themselves almost exclusively via the domestic banking sector. In most countries, however, the majority of loans to enterprises are granted by only a few banks. That makes the economy vulnerable towards, and dependent on, this sector. 

In the United States, on the other hand, it is quite usual for enterprises to obtain money directly from the capital market. And not necessarily in the state in which they have their headquarters. This form of corporate financing makes the economy much less vulnerable towards any problems in the banking sector. It is, however, significantly underdeveloped in Europe.

In a monetary union one should also expect a fully integrated capital market. That would mean, for example, that a creditworthy entrepreneur from Osnabrück could issue a bond without any problems in the Netherlands. Or an entrepreneur from Lisbon could do the same in France. After all, France, Portugal, the Netherlands, Germany and 15 other countries share the same currency. 

A truly integrated capital market would not only benefit the European economy because it would ensure an efficient and location-independent allocation of financial resources. It would also bring with it a greater distribution of risk.

First, spreading risk means striving for a balanced financing mix. If Europe’s enterprises do not principally finance themselves with bank loans but also with, for example, corporate bonds, the economy can still prosper when banks are rather hesitant in their lending. Currently in Europe, however, only around 20-50% of debt financing takes place in capital markets. By comparison, in the United States it is around 80%.

Now, we cannot expect to have a completely new financing mix in Europe from one day to the next. That is why a healthy banking sector remains a prerequisite for SMEs to be able to access loans. Over the medium to long term, however, the desire is not to have to rely on this sector alone, but to foster alternative methods of financing, for example by appropriately regulating the securitisation market.

Second, spreading risk means that financial markets within a monetary union should actually function independently of national borders. Economic shocks can then be better absorbed because countries receive a certain amount of protection from the private sector. If, for example, part of a country’s assets are held by foreign investors, these investors will also bear a share of the consequences of an economic shock. Such shocks thus have a reduced impact on the domestic economy. A country can also reduce its vulnerability to shocks by holding a geographically diversified portfolio itself. Ultimately, integrated financial markets help to cushion national shocks because companies and consumers can also fall back on foreign capital markets and banks in times of crisis.

Such risk-sharing with the private sector works very well In the United States. According to scientific estimates, around two-thirds of an economic shock are smoothed by capital and credit markets. The European financial markets are much less effective at absorbing such shocks and their ability to do so deteriorated even further during the course of the crisis. 

Full speech

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