18 March 2005

Factors influencing non-bank financial intermediation in the EU: securitisation, mutual funds

Factors influencing non-bank financial intermediation in the EU: securitisation, mutual funds
Securitisation - Comprehensive examples of legal innovation to create the legal framework for both covered bonds and “securitisation” come from two small countries (Ireland, Luxembourg). Crucially, neither of these countries faced an imperative, economic need. The stimulus was competition – and large potential benefits in attracting financial services industries. Japan does have economic needs so perhaps competition between sectors of the financial industry might be a stimulant; There is an acceptance of importing the US economic model of securitisation of credit. The concept of covered bonds is being expanded as a traditional European mechanism, though re-inforced by the use of SPVs as well as special banks. Mutual funds - The development of UCITS laws for mutual funds epitomises the evolutionary process. The initial focus was on investor protection with simplicity of design and management. UCITS are clearly a mechanism for providing greater risk capital via traditional bond funds with a modest amount of risk and a higher return by dis-intermediating the banking system; But the growth of non-UCITS shows the risk appetite of EU savers in a world of low inflation, and thus low interest rates. So a key part of the EU’s drive to invigorate economic growth is to dis-intermediate the banking system by permitting (and encouraging) a greater variety of mechanisms to enable savers to choose their own preference on the risk/reward spectrum.

SummaryAs an act of overarching political will twenty years ago, the EU took decisive steps to convert itself into an open and competitive economy. The application of that philosophy to cross-border trade in finance and money led to a single currency, and a self-reinforcing circle that will continue to develop for decades. Does Japan have that over-arching political will to convert to an open, competitive economy?

Contents
Introduction 1: Growing recognition of effects of aging population – interaction with desire to cut financial intermediation costs The demographic comparison The political power of older citizens What is the EU doing about the financial implications What are the practical implications of the pension crisis? Is the State prepared to offer Guarantees? Reducing intermediation costs 2: Development of UCITS: Directives and scale Historical development of UCITS legislation Economic benefits of UCITS Recent developments in the size of EU investment funds International comparisons: EU, US, Japan 3: Securitisation: history and progress. The development of the euro-denominated bond markets Relevant definitions ECB Opinions on the Irish Mortgage Bond Law and Luxembourg Securitisation Law Development of securitisation – covered bonds Development of securitisation – ABS 4: Implications of Basel II for EU banks and Solvency II for EU insurers. Basle II Solvency II 5: Some comparisons with US policy US historical developments Role of GSEs in US The role of the EIB in Europe Comparison of EU, US and Japanese bond market structures Some conclusions about the lessons for Europe, and onwards to Japan Appendix 1: US: Outstanding bond and bank claims Appendix 2: Background of Graham Bishop

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© Graham Bishop