Capital Markets Union and Banking Union: Two Mutually Inclusive Projects

The level of integration of EU capital markets is still insufficient to boost growth and investments across Europe, according to Marco Lamandini, Professor of Commercial Law at the University of Bologna, and one of several featured presenters at “The Future of Capital Markets in the EU: Towards Deeper Integration” conference, which was held on 6 June 2018.

Lamandini asserted that the Capital Markets Union (CMU) and the Banking Union (BU) projects should be complementary to each other. The positive effects of this alignment include enhancing economic and financial resilience by diversifying fundingsources, easing access to capital markets for investors, and stimulating financial innovation.

The benefits of completing these two projects were also discussed in the recent conference “The Future of Capital Markets in the European Union”, co-hosted by CFA Society Finland and Aalto University on 20 September 2018. The event included an interesting debate on the main issues in the capital markets sector in the EU. In his keynote speech, Olli Rehn, Governor at the Bank of Finland, stressed that “a real Capital Markets Union cannot work properly and efficiently without strengthening the banking sector and making it more resilient to idiosyncratic shocks. Additional hindrances to the development of a Capital Markets Union are represented by the current national legislations on taxation and insolvency.”

Since the EU financial system is based predominantly on the banking industry, which controls about 75% of European funding, Rehn’s point on the need to have a stronger banking sector was well made. A more stable banking sector is essential for the correct financing of the European economy. Further, a major integration of the European banking system will contribute to the integration of EU capital markets. Promoting more cross-border and merger banking operations would facilitate this process. In addition to helping diversify funding sources, stronger capital markets in the EU would also relieve banks’ balance sheets of their burdensome nonperforming loans. A real Capital Markets Union would support markets that are more efficient and push up the market value of bank assets.

In contrast, Risto Murto, CEO at Varma (a pension insurance company in Finland) expressed scepticism about the achievement of a real CMU in the EU. He argued that “it is unlikely that the EU is going to replicate the US model in the next 10 years.” He noted that the EU financial system lacks middlemen who would be essential to fund industry. Moreover, the EU will lose the biggest financial market centre in Europe (and its competence and expertise) after the departure of the United Kingdom from the bloc. Murto expressed hope that the United Kingdom will still play a role in the CMU project, as it is the only country in the EU that “sells the values and concept of market economy.”

The wave of banking regulations adopted at the EU level following the 2007-2008 financial crisis and the early 2010s Eurozone crisisintroduced many liquidity requirements. However, as Anneli Tuominen, Director General at Finanssivalvonta (the Finnish Financial Supervisory Authority) remarked, regulation has to go hand in hand with banking supervision. Tuominen explained that strong professional supervisors are needed at the EU level. The banking system is much healthier than it was in the wake of the Eurozone crisis. The Single Supervisory Mechanism (the first pillar of the Banking Union) has bolstered the quality of supervision and the resilience of European banks, and the amount of nonperforming loans has significantly decreased in the recent years.

The Banking Union also benefits credit institutionslocated in the countries that participate in it. For example, in March 2018, Nordea Bank’s shareholders approved (by 96,9% vote) the plan to move the bank’s headquarters from Sweden to Finland because the latter is a member of the European Banking Union and the Eurozone. This decision saves the bank €1bn in resolution fees and deposit guarantees that it no longer has to pay. Nordea’s Board of Directors, which proposed the move at the bank’s Annual General Meeting, promoted the relocation as good for the bank’s strategic planning, financial position, and long-term profitability.

Focusing on current and future issues (most of them stemming from the development of new financial technologies), Sirpa Pietikäinen, Member of the European Parliament, said that the financial regulatory approach in the EU should be horizontal. Irrespective of its legal form, every financial entity that either invests money, gets deposits, or carries payment transactions should comply with the same regulatory requirements. This would avoid the adoption of multiple pieces of legislation that could give rise to overlapping and mismatching regulations. Such an approach would also be beneficial to market stability, enhance the level of retail investor protection (and thus, the trust of those investors), and create a more effective level playing field in the EU financial markets. Thisis not the first time that European regulators have called for a horizontal regulatory approach. The topic was a key issue highlighted in a 2005 Own-Initiative Report by the European Parliament on the state of integration of EU financial markets. In their resolution, Members of the European Parliament stressed that this way of regulating financial markets in the EU should cover the asset management sector and harmonise the relevant aspects of some legislation, such as the Markets in Financial Instruments Directive (MiFID), the Undertakings for the Collective Investment in Transferable Securities (UCITS), the Institutions of Occupational Retirement Provision, and the Life Insurance Directives. However, this and other issues (including ongoing cross-border barriers in the retail financial services market) raised in the 2005 European Parliament report have not yet been addressed.

Early in 2018, the European Commission put forward a proposal for a directive reviewing the current framework for UCITS and Alternative Investment Funds. Its goal was to improve the transparency of national requirements and, above all, remove those barriers that are still outstanding in order to make the cross-border distribution of investment funds framework simpler. In the impact assessment accompanying the proposal, the European Commission highlighted, among other points, the many marketing issues, such as the divergence of national marketing requirements and supervisory practices, as well as problems regarding the use of the EU marketing passports that prevent the asset management sector from exploiting its full cross-border potential. Responding to the CMU Action Plan mid-term review in 2017,CFA Institute stressed that such obstacles hamper the creation of a true liquid single market for cross-border investment.

In December 2018, some positive developments were seen in the EU banking regulation. The European Parliament and the Council of the European Union reached a provisional agreement on the banking package, whose purpose is to reduce risks in the banking sector and strengthen the resilience of banks in the EU. Measures to amend the Capital Requirement Regulation and Directive and the Bank Recovery and Resolution Directive would contribute to stronger financial stability and boost the banking sector to invest in the EU economy.

For more on the CFA Society Finland event.

Video highlights of the event are available.

Image Credit: © Photographer is my life.