Public interventions that help European startups to scale up their businesses have so far focused mainly on establishing a functioning market for venture capital (VC) and making it attractive to private investors. However, VC funding in Europe remains a fraction of what is required, still relies heavily on the public purse and fails to channel resources into strategic green sectors. Changing this requires three measures. First, the EU should enable institutional investors to invest independently in VC. Second, the European Investment Fund should strengthen the sustainability impact of its support for VCs. And third, the European Investment Bank should expand its direct investments in cleantech scaleups that are too risky for private investors.

The EU has a scaleup financing gap. Europe is not short of innovative companies, but those that want to grow face serious difficulties in accessing capital at home. Typically, venture capital (VC) firms provide capital to risky startups. But compared to other jurisdictions, Europe’s VC sector consists of fewer and smaller funds, because institutional investors in the EU rarely invest in VC or prefer established funds in the US. This constitutes a problem, especially for larger European scaleups that often relocate to the US where a vibrant and innovative finance ecosystem provides ample risk capital to new companies.

Public support for Europe’s VC industry has not closed the gap in private financing. While the US once kickstarted its now mostly privately-funded innovation financing ecosystem with direct state investment and China still uses government-controlled VC funds to support its industrial policy ambitions, the EU to date has mostly refrained from directly investing in startups, instead injecting public money into private VC funds that then take the investment decisions. As a result, the largest investor in European VC funds today is the European Investment Fund (EIF) – the investment arm of the European Investment Bank (EIB) Group. The EIF can point to significant successes in ramping up the European VC market. However, this cannot hide the reality that VC funding in Europe currently remains a fraction of what is required and still relies heavily on the public purse.

Providing innovative firms with capital at home is a priority for the new European Commission. In July, then President-elect Ursula von der Leyen proclaimed her intention to turbocharge tech investment in Europe. Further growing the European innovation finance ecosystem is indeed crucial to foster Europe’s competitiveness, productivity and sovereignty. But the EU firstly needs to spur investment in breakthrough technologies if it is to fulfil its climate ambitions. The International Energy Agency estimates that 35% of the technologies needed for reaching net zero in 2050 are not yet on the market. Boosting investment in green innovation – beyond enacting sufficiency-related policies that curb energy and resource demand – is therefore imperative.

Creating a European innovation finance ecosystem takes more than money. Instead of simply pouring more public money into Europe’s VC industry, the EU should rethink its approach to public innovation funding. First, the EIF should help institutional investors to build VC expertise. Second, the EIF should strengthen the conditions for its programmes targeting sustainable investments. Third, the EIB should gradually expand its direct investment in selected green companies that cannot receive funding on private markets....

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