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02 October 2015

Policy Network: The Capital Markets Union needs to do more to help risk-takers

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The CMU should focus on the fast-growth and innovative firms that truly make a difference and are capital constrained.

[...]The plan itself is extremely comprehensive and tackles critical issues that have for too long been ignored including: the diversity of insolvency proceedings across the EU that are restricting cross-border investment; withholding tax which in certain member states is resulting in the double taxation of investments; and the fragmented securities market infrastructure which drives up the cost of cross-border investments by as much as 10 times as that in the US.

The expected revision of Solvency II capital requirements to better reflect the true risk of infrastructure is eminently sensible given the shortfall in investment, and the potential impact that infrastructure investment might have on the broader economy.

Furthermore, recommendations to improve information flows on loans rejected by banks to other providers as has been developed in France through its mediateur du credit scheme, in combination with the new securitisation proposals will also help improve the efficiency of solvent banking systems to extend credit to small- and medium-sized enterprises (SMEs). However, the proposals to improve the funding of businesses in order to drive jobs and growth need to be far more focussed if they are to solve the problem at hand.

The fact that there are so many recommendations suggests that the commission is more determined to provide as wide a choice of financial instruments as possible, rather than honing in on the critical financing gaps across the EU. [...]

The challenge with any policy debate about how to improve the flow of capital to SMEs is that the needs and desires of SMEs for financing are diverse and often have little in common with each other. As such the action plan could do with identifying which segments of the SME market are faced with severe funding constraints, and crucially what impact they might have on the economy in terms of growth and jobs if this financing gap were to be bridged.

Policy Network, as part of a detailed analysis of micro data from the European commission’s Survey on the Access to Finance of Enterprises, has identified the group of fast-growth and innovative businesses as having a far greater impact on the rate of growth and jobs creation than all other SME segments. [...]

The action plan addresses this at a very high level stating that the commission will launch a package of measures to support venture capital and equity financing. [...]

The plan argues that to transform equity financing in Europe, the industry needs to have greater scale. [...]

The main reason for the fall in institutional investment is that the returns to venture capital are around zero. And while returns are close to zero, it is not clear why institutional money will increase exposure to this asset class. [...]

Finally, what often matters more for the success of these innovative and fast growing firms is not just capital, but expertise. As such the commission ought to recommend member states to prioritise tax incentives for business angels, who have the expertise, to drive up levels of local investment. The commission should also look to guarantee the financing of these tax incentives if member states are unable to afford short term deficits. Once local investment levels have reached a critical mass, developing pan-European passport products would also be beneficial.

[...]The commission must prioritise an equity revolution across the EU. That means promoting best practice for tax incentives for business angels, and leveraging the capability of the EIF to provide long term loans to equity funds to help make the venture capital business model profitable.

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