As anti-European voices get louder throughout the continent, one would assume the collective has seen its day. Though you shouldn’t discount its potent economic and political force just yet. Incoming president Jean-Claude Juncker has set out an ambitious financial agenda well before even assuming office. But can he convince 28 member states, and the world, that deeper EU integration benefits everyone? European CEO is joined by two financial experts experts, Hans Hack, Head of Financial Services for FTI Consulting in Brussels, and Nick Jeffrey, Public Policy Director at Grant Thornton, to discuss Juncker’s most pressing financial challenges, and whether he’s the man to bring greater harmonisation to Europe.
European CEO: So let’s begin by discussing the European Commission president Jean-Claude Juncker’s proposal for a capital markets union. Of course the plan is to move away from bank financing for projects, but after all of the EU’s efforts to regulate the banks, wouldn’t giving the work to non-banking institutions be a problem? Because ultimately what you’re saying is, these groups are not going to be facing regulation.
Hans Hack: I think that’s a very good question. However I think one of the problems that Europe has faced is that it’s too reliant on bank financing. And one of the reasons that the crisis lasted so long is that banks have been in trouble, and the lending to the real economy has not picked up yet.
You see in the US for example, which is less reliant on bank financing, that the economy has rebounded quicker. Not dramatically well, but: quicker.
So I think it makes all the sense in the world to try to diversify funding sources away from banks – or in addition to banks – so that the economy in the EU is more resilient as a whole.
European CEO: Nick, what do you say? I mean, moving away from non-banking institutions, is that really the best move forward?
Nick Jeffrey: I think if I was a business looking for finance to grow and build my business, and to expand, and to employ more people? I want a stable source of funding. I don’t really care if it comes from the banks, private equity, or business angels. I’m looking for a stable source. And at the moment the only stable source across Europe is bank lending.
The scale of the challenge shouldn’t deter us from doing it
And because of the financial crisis, that bank lending has dried up.
Society is asking banks to put more money on its balance sheets to save for a rainy day. It’s also asking those same banks to lend more money to business. And at some point it’s asking those banks to pay more dividends into our pension pots.
Now those three things don’t add up.
The focus at the moment is on banks building up their balance sheets, so they don’t have the money to lend to business. So this is really feeding the drive for alternative sources of finance.
European CEO: Now last year of course, the economic and financial committee was set up by a high-level expert group at the EU level to make recommendations on increasing access to capital markets for small as well as medium enterprises, and long-term infrastructure financing in Europe.
Now among the aims:
- Investors see transparency and have access to data on a consistent basis about upcoming infrastructure projects and about the performance of small and medium enterprises and the various SME classes
- Banks can originate loans with their customers and access funding cheaply to do this through the use of securitizations or capital markets.
- European SMEs do not need to sell out their companies or go to other jurisdictions like the US to access growth capital or offer shares to the public
- Now gentlemen, these are just a few of the aims that are set out in the agreement. But ultimately we are talking about harmonisation of these rules within the EU. But how do you achieve that, given that there are so many diverging rules governing the fields of taxation, bankruptcy, as well as cross-border investments across all 28 member states?
Hans Hack: Well I think the EU has a long track-record of doing that. I think many of the policies that the EU has put in place in the last 50 years nearly, have been based on things that were national competencies before.
The scale of the challenge shouldn’t deter us from doing it.
Secondly, I think with putting in place the banking union in the last two years, we’ve gained a lot of experience in picking up these large-scale projects. And I think the capital market union is also meant as a bit of a mirror of the banking union, to help funding flow to where it’s needed most.
And lastly, I don’t think we should forget that there’s many pieces of legislation already out there. Like the MIFID investment fund legislation, which already do parts of what’s now being considered in a broader perspective.
So we have the experience, there’s much in place already. And it is a challenge, but in the EU we’ve been used to challenges.
European CEO: Well let’s go back to the specific issue of bankruptcy, for instance. How do you bridge the divide on that topic?
Hans Hack: Many of these issues are not dealt with, with one agreement. Or from one day to the next. The banking recovery resolution directive, which deals with the collapse of big banks, has to be put in place, and there will be issues popping up when it is being implemented.
However, I think we can deal with those steps when they come.
I think the capital markets union won’t touch bankruptcy laws as such. It can’t: the EU doesn’t have the competence there. But what it does try to do in my opinion – and let me put up front, nobody really knows what a capital markets union is, so that also has to be defined in the coming years. But what it’s supposed to do is provide better flows of funding from where there is money to where there’s a need for money.
And that is easier to do than the backside of that, namely bankruptcy law and taxation.
European CEO: Nick, you’re on the front lines of enforcing these rules and making sure that companies are really on the side of the law when it comes to building their brands. Do you think that capital markets union is a feasible plan in terms of harmonising the rules among the issues that I just raised?
Nick Jeffrey: I think it depends on who you speak to, and what their vision of what a capital markets union is. And I have to say that among the 28 member states – 27 at the time – banking union was seen to be a necessity, because many of the banks around Europe were operating across borders.
They realised very quickly that they couldn’t sort out the banking crisis on their own, on a national basis. They were much better off doing it among themselves. And even on a global level you can see that in Basel and a number of other initiatives.
But I think, capital markets union… there isn’t quite the driver on governments to do it collectively. It’s not quite such an urgent issue to do it collectively. And I do wonder if it’s going to be achieved a little bit piecemeal, where common rules – everybody can see the benefits, or at least, not too much downside, in having common rules.
I’ve spoken to you before: the ideal in Europe, and maybe even across the world, is to have one set of rules that we all operate under in the business environment. But that’s just something that is not going to happen. And I worry that this discussion around the capital markets union gets taken by the eurosceptics, and is used against the whole idea of European Union, in a manner which is completely unintended and would be to the detriment of all 28 member states.
Hans Hack: If I may, I agree with you that the pressure on the banking union was politically and economically much larger. And that helped it being forged in a relatively short period of time.
However I think that capital markets union might be less contentious, in a way? Because it could be beneficial for those member states where the banks are able to fund, and able to provide new funding opportunities, for non-banks, where there is money. And it could provide advantages to those member states that are in need of lending.
So it might be that the pressure is less, but actually the incentives are right to help put this in place.
European CEO: The Bank of England is a big supporter of the idea of securitisations. Let’s look at one particular statement from the bank:
“The plans of the EU and international regulators, such as the Basel Committee on Banking Supervision and International Organisation of Securities Commissions to review developments in securitization markets and promote the concept of so-called ‘high quality’ securitizations should be helpful. These efforts should be reinforced and accelerated without delay to reduce the current regulatory uncertainty that is impeding the reactivation of the market”.
Now, what form should these high quality securitisations take, if we’re to move away from the currently proposed catch-all regulatory treatment for all asset-backed securities?
Hans Hack: The main question that people are grappling with is indeed how to do that, and what is a high quality securitisation?
One has to remember that the financial crisis started with sub-prime loans being repackaged, being sold on. In the aftermath there was a very negative sentiment around securitisation, which meant that the markets dried up.
I think a lot of transparency on what securitisation consists of is important
And now there’s a realisation that securitisation markets are necessary for economic growth, and for sharing risk.
I think this is something that has to be hammered out. The ministers of finance of the EU are coming together in September to discuss exactly this. What can we do? Are public guarantees necessary to make the securitisation market work?
I think a lot of transparency on what securitisation consists of is important. But indeed, a differentiation between what is high quality and what is not, that is something that is a challenge to figure out. And that’s why some disagreements are still there.
European CEO: Nick, I’ll let you have the last word on this one. Can we achieve any sort of agreement without a watered-down approach?
Nick Jeffrey: Yeah, I’d prefer more ‘consensus’ than ‘watered-down’. But I think the problem with a high-quality securitisation is, it’s only high-quality if the securitisation is enforced in isolated cases, or in a few cases.
Once that enforcement happens, and is taken into account across the board, it brings to the surface a new systemic risk.
We have to be very careful that in leading the charge towards higher quality securitisation, that it doesn’t open up other avenues of inherent risk, systemic risk, that we don’t have at the minute.
European CEO: Now let’s move on to the application of Basel III, of course that’s the fourth Capital Requirements Directive, CRD IV.
Now first gentlemen, let me get your general opinions on its application. Of course we’re still in that process right now. Do you think it’s right where it needs to be? Hans?
Hans Hack: I think overall, yes. I think there was great consensus worldwide about increasing capital buffers, focusing on liquidity as well. All the things that are incorporated in CRD IV at this point in time.
Of course, it’s still being implemented as we speak. Application is taking place. So we’ll have to see in a couple of years.
And there are review clauses built in to reassess if necessary. But overall I think it’s in the right place.
European CEO: Nick, do you cast any sort of sceptical glance, or do you think that this programme is moving forward as you expected?
Nick Jeffrey: The process is moving forward as I’d expect, and I think it’s moving forward, and it’s generally accepted to be pointing in the right direction.
What worries me slightly is that there will be a bank fail at some point. And what happens then? Do we move to Basel IV, CRD V? I feel that from a regulatory perspective we’re approaching the point of diminishing returns. We’ve almost gone as far as we can, and we’ll have to start looking for new targets if we really want to reduce risk even further in the banking sector.
European CEO: Now let’s move from general to specific. In particular the credit valuation adjustment charge – of course that is an additional risk capital charge. The intention being for banks to hold on to more capital, and the cost of that is passed on to the consumer.
Now we have a quote here I want you to consider. This is from Sharon Bowles, she’s the former chair of the European Parliament’s committee on economic and monetary affairs. She says:
“Take the credit valuation adjustment charge, which is particularly damaging for industry. If the UK had implemented Basel III on its own, it would have had very strict CVA charges: it wouldn’t have exempted non-financial institutions from having to pay it on legitimate corporate hedging.”
Now do you agree with her opinion that the UK financial marketplace is in any way disadvantaged by this more lenient approach to applying Basel III? I’ll let you have the floor this time.
Nick Jeffrey: Sharon Bowles also said that she wanted regulation from a European perspective to be enabling, and not disabling. And I think in many respects CRD IV and the way the Basel rules have evolved, I think they are enabling. I think… you’ve got to remember that in the UK we have a very strong financial system, and very strong financial markets and capital markets.
And some countries envy that, in the European Union. If I can put it like that?
The City of London is good for Europe, let’s not forget that
And there’s a degree of sensitivity from us Brits, talking about the City of London, that sometimes regulation is seen as attacking the City of London.
I think the fact that we have common laws around Europe, and not just targeting London, is helpful.
Hans Hack: I think it’s interesting what you say, that the city sometimes feels like it’s being attacked through European legislation. And on this specific issue Sharon Bowles makes the point that the EU is less strict than the UK rules would have wanted them to be.
I think it links to a broader agenda. Namely, if you want a single rulebook – which is an agreement with the heads of state in the EU – which makes intra-EU trade easier, that means you have to find an agreement on the rules, and that has to be a harmonised rule package.
Because otherwise people won’t trust each other, they won’t trust supervision of each other’s banks, and so on.
And that inevitably means that on certain issues some member states feel disadvantaged, and on other issues they feel advantaged. And vice versa.
I think, considering the size of the City of London, and the amount of business the financial institutions do across Europe, that the harmonisation approach is probably a good thing also for the City of London.
Nick Jeffrey: The City of London is good for Europe, let’s not forget that.
Hans Hack: Absolutely.
Nick Jeffrey: It’s not just good for the southeast of England, or even the UK as a whole. The City of London is good for Europe.
European CEO: Still gentlemen, I’m not really sure if the baseline CVA charges that you discuss are really a baseline that are mutually agreed upon?
Hans Hack: Again, it depends on who you speak with, probably.
One of the main intentions of Basel III and also CRD IV is to price risk accurately and to provide higher buffers. This is an example.
Obviously things become more expensive if there has to be more capital against certain risks. But that was the overall intention of Basel III: to prevent another capital crisis.
European CEO: Nick, do you think that the UK should even remain aligned with CRD IV?
Nick Jeffrey: Oh, if only I was elected that popularly!
I think that yes, the UK is part of the European Union. Part of that is you buy into the process of rulemaking, and once the rules are agreed through the rulemaking process – which is very involved, it can be quite difficult to understand from an outsider’s perspective. You’re part of the European Union, you buy into that process.
Hans Hack: Having been deeply involved in negotiations in Europe, it is indeed a question of bringing your points across, and finding an agreement between member states. And on certain issues you get your way, and on others you don’t.
But I think overall, it certainly makes sense to apply CRD IV, and legally speaking they will have to!
European CEO: A conciliatory approach indeed! Now let’s talk about trade negotiations, particularly external negotiations related to trade around the Transatlantic Trade and Investment Partnership. That’s the EU as well as the US. Now Nick, do you think an agreement is even achievable in the next year?
Nick Jeffrey: No.
I… there are so many different factors at play, and I don’t see enough impetus towards agreement, I don’t see enough positives on either side.
The thing is, between the European Union and the US, there aren’t that many trade barriers at the moment which are really significant. There aren’t any barriers that I know of that are preventing a business going to the US, or a US business coming to Europe.
Typically for a business, it would be a business decision: ‘I want to go and access the market in the US,’ and then, ‘Now I know I need to do business in the US, I will do what I need to do to deal with the local regulatory environment.’
There are hurdles to get over, but there are hurdles to doing business elsewhere in the world, wherever you want to do business. And part of the criticism of the TTIP negotiations is that the big hurdles have all been dealt with a long time ago, and we’re looking for a succession of smaller hurdles now, which are maybe not as important, and don’t demand the same degree of input from the European governments and US governments that we’re seeing.
European CEO: But Hans, when we talk about some of these hurdles as he suggested, these are not just little hurdles. These could potentially make or break a deal, particularly around competition clauses, intellectual property… I mean these are issues that really speak to a country’s ability to stay competitive in any marketplace. Do you think that those will ever be overcome?
Hans Hack: It’s a good question, because there are certainly obstacles to finding an agreement. And those are as much political as they are technical.
If you take into account the European Parliament, where there’s a significant resistance to TTIP, because they’re afraid that some of the European values, if you will, or protection, would be damaged? Interestingly, the same is the case in the US, where they feel that certain protection mechanisms might be impacted by this.
And the European Parliament will want to be involved in this as well.
So I think, politically speaking, there’s quite a bit of complication. But there are benefits, and I think the way to get out of this is to express much more clearly what those benefits are, and why this could be advantageous to both the US and the EU.
And that transparency is actually something that’s being echoed by the Italian presidency of the EU right now. They’re asking to make much more public what are the states of negotiations, and where it’s going.
European CEO: Now let’s talk about a factor that has nothing to do with regulation, but everything to do with trust. And that’s the Snowden spying revelations that have come to light. Of course, that has really created tensions between the US and Germany; how do you get a country such as Germany – an economic powerhouse – to really agree to any sort of trade deal when it doesn’t even trust the people on the other side of the table?
I think the EU as a collective is stronger than individual member states
Hans Hack: There has to be confidence to come to an agreement, that’s totally true. However the potential benefits of a trade agreement are significant. Look at the car manufacturing industry, for example.
However, that confidence needs to be there. And transparency about the benefits of the trade deal should be able to overcome that.
European CEO: Now the US has come under some fire for striking one-sided trade deals; most notably the North American Free Trade Agreement with Canada and Mexico from the mid-1990s. Now that continues to be disputed all the way up to the World Trade Organisation level over unfair practices. Are we seeing that happen gentlemen at the TTIP level? Or could potentially see that happen?
Nick Jeffrey: I think the transparency point that Hans raised earlier is key to getting to that suitable answer for all parties. I don’t see transparency at the moment: you just don’t know what’s on the table, you don’t know where the negotiations are heading, you don’t know what the perspectives are of the two different sides of the discussion.
You can’t expect people to engage in that discussion without transparency. And if you don’t have transparency, when the answer is then presented to the business world, you’re asking them to accept that answer without understanding how that answer has been arrived at.
And then all that happens is, you’ll have lots of loud voices saying ‘I don’t like this bit, and I don’t like that bit!’ And then it gets discredited, and that’s not helpful.
European CEO: Very interesting. Now any conversation around the European Union couldn’t take place without a strong consideration of what is happening with Russia over the Ukraine right now.
Hans, do you think the European Union should even be involved?
Hans Hack: I think the EU as a collective is stronger than individual member states, and I think that makes a good case for having the EU be very much involved, rather than having individual member states trying to come to an agreement with Russia. I think the EU and the US working together on this is even more powerful.
In these types of geo-political situations, I tend to think that working together is better than not.
European CEO: Do you have faith that an incoming commission will indeed be able to continue to move forward the mandate of the EU when it comes to dealing with Russia?
Hans Hack: I hope so. It’s not clear yet who that commissioner’s going to be. To a certain extent of course it depends on the person themselves.
I hope that we have commissioners in all posts who are willing and able to take courageous decisions that benefit us all. So I’m hopeful, but I’m an optimist by nature.
European CEO: So we’ve talked about just a few of the issues that President Jean-Claude Juncker is going to be faced with as he enters into office. But of course if he really wants to make his mark and prove that he is indeed the right person at the helm, what do you think should be the very first issue that he takes on? Nick.
Nick Jeffrey: Everything you hear in Brussels – everything I hear in Brussels – it’s about growth and jobs.
In five years time, if Mr Juncker is able to say that he facilitated a return to growth of the eurozone, increasing employment for the European Union member states, then anything else that he might do or fail to do, I think pales into insignificance next to that.
European CEO: Hans.
Hans Hack: I would love to disagree with Nick, but I can’t really. Economic growth is the theme.
There’s a rise of anti-euro sentiment, there’s a rise in populist sentiment in member states. My belief is that that’s very much linked to the economic situation. When there’s economic growth much of the sentiment will disappear, I think. And I hope.
So boosting economic growth is his main task, and will be his main challenge.
European CEO: Well I’m sure we’ll all be watching eagerly to see just how he moves forward with that mandate.
Now I want to hear what you have to say at home. What do you think about Jean-Claude Juncker and the first task he should see to fruition? Tweet us @europeanceo and remember to #EU.
Thank you so much gentlemen for joining me today.
Hans Hack: Thank you Kumutha.
Nick Jeffrey: Thank you.