The Capital Markets Union is one of Juncker's main goals. But can this risky project even work without the City's involvement?by Diane James / March 2, 2018 / Leave a comment
In 2015 the European Union launched the Capital Markets Union. Designed to strengthen the economic and financial security of the EU, it is one of Commission President Juncker’s main goals.
The CMU is designed to expand the market for borrowing money for businesses by increasing the number of lenders, and introduce less traditional methods of fundraising, such as crowdfunding. Its clearly-stated aim is to make the EU financial system more robust.
In its own words the EU sets out the objectives of the CMU as developing “a more diversified financial system complementing bank financing with deep and developed capital markets, (unlocking) the capital around Europe which is currently frozen and put it to work for the economy, giving savers more investment choices and offering businesses a greater choice of funding at lower costs.”
But one thing is very clear to me: the UK should stay well clear of this project. It will not strengthen the financial markets—rather, it will achieve the absolute opposite and imperil the economy of the whole continent.
One of the principal objectives of the CMU is a revival of the exact same financial product that caused the 2008 financial crisis: securitized loans.
The EU aims to bundle together various bonds and have them sold into the market. This scheme effectively hides the true risk of the individual bonds and their issuers—made all the easier when they are denominated in Euros. This will mean that risky bonds will be able to bask in the protection of a higher credit rating provided by the senior bonds in the tranche.
Sounds familiar? This is the exact same package that introduced us to sub-prime loans.
Of course, it will be argued that the true risk rating of the packaged bonds will be reflected in the credit rating awarded by the agencies.
But this was core to the problems of 2008, when it turned out that the agencies had been giving wildly inaccurate ratings to these products. This resulted in multi-billion dollar fines being handed down by the regulators (Moody’s alone was forced to pay $864 million).
What guarantees do the investors have to prevent this happening again? The answer is none.
More worrying, perhaps, is that the CMU intends to open up alternative sources of financing for companies. By alternative sources, the EU means non-professional investors.
Opening up the marketing of financial products to non-professional firms runs major risks of fraud and default—just ask anyone who has had anything to do with the so-called “Chinese shadow banking sector.”
Thankfully, though, the CMU will not be able to get off the ground without the participation of the UK, and Theresa May should resist any temptation to stay involved.
In reality, the CMU was intended as a method of letting the EU tap into the vast financial resources provided by the City of London, but Brexit has thrown a spanner in the works.
Excluding the UK’s financial services sector from free access to the EU markets (“passporting”) will make the UK unlikely to participate in the CMU—but without London the CMU simply will not get off the ground.
This creates a much bigger headache for the EU, as the CMU was designed to provide the finances for its other ambitious projects such as the European Energy Union.
Taking the City out of the CMU will likely have a cascading effect and much of the dreams for greater development and integration will, quite simply, never materialise.
Would it not be a revelation to learn that Theresa May had this ace up her sleeve—and could this explain just why the EU is playing such ‘hardball’ at the moment? Could it be that in order to secure the UK’s participation in the CMU the EU will compromise on Citizens’ Rights and the Irish Border? Only time will tell.