Capital Markets Union – Slow start towards an ambitious goal

Executive summary

The Capital Markets Union (CMU) is a large-scale initiative of the European Union and it was officially launched in the Commission’s Action Plan in 2015. The main goal of the CMU is to create a single market for capital, in which companies, in particular SMEs, will have better access to non-bank finance and in which local capital markets will be deepened and better integrated. By complementing banking finance, enhancing private risk-sharing and ensuring overall risk reduction, the CMU should result in a more stable financial system that is better equipped to boost growth, create employment and make Europe more attractive for foreign investment.

The 2015 CMU Action Plan and its 2017 Mid-Term Review included a large number of measures, which should have had a cumulative effect of laying down a foundation for the CMU by the end of 2019. Given the high priority attached to this flagship initiative by the Commission and stakeholders, we consider that this report is well-timed to support further development of the CMU. Our report addresses how well the Commission carried out its role and highlights issues, which may have an impact on the CMU’s success now and in the future.

The audit examined whether the Commission has been successful in its actions towards building an effective CMU. To address this overall question, we assessed whether the Commission had achieved its objectives of increasing the diversity of sources of company financing; whether it had taken effective action to sufficiently foster more integrated and deeper capital markets; whether it had removed cross-border barriers for market participants, and had appropriately designed and monitored the CMU project.

Our overall conclusion is that the Commission has made efforts to achieve the challenging goal of building a CMU, but the results are still to come. Many of the measures that the Commission was able to take within its remit only addressed narrow areas in the pursuit of the CMU objectives. By their very nature, these measures (for example, soft measures such as carrying out analyses to promote best practice) have not been able to catalyse substantial progress in achieving the CMU. Another limitation that the Commission faced is that many key actions can only be undertaken by the Member States, or with their full support.

The measures to diversify financing sources for companies addressed issues that were too narrow to initiate and catalyse a structural shift towards more market funding in the EU and had only a limited impact. Furthermore, the securitisation legislation, although a positive step, has not yet produced the anticipated recovery in the European securitisation market after the financial crisis and did not help banks to increase their lending capacity, among others to the benefit of SMEs. Transactions remain concentrated within traditional asset classes (i.e. mortgages, car loans) and in certain Member States.

As to the development of the local capital markets, the Commission used its coordination role in the European Semester process. However, the Commission did not develop a comprehensive and clear EU strategy and it had not recommended that all Member States with less developed capital markets implement relevant reforms. The Commission used the demand-driven Structural Reform Service Programme (SRSP) to finance CMU-relevant projects, among others. Although the intervention logic of the SRSP was not formally oriented towards the specific needs of EU capital markets, the objectives of the CMU were addressed at the project level. However, the demand-driven approach was not conducive to providing support to all Member States corresponding to their needs and its results are still to be seen.

We note that the CMU Action Plan did not lead to a breakthrough as regards resolving the main barriers impeding cross-border capital flows. These barriers often emanate from national laws, such as those in the fields of insolvency law and withholding tax or from a lack of financial education. The progress on tackling the barriers was limited, partially due to a lack of support from the Member States.

As regards the design of the CMU, its objectives were not always specific or measureable enough. In addition, no priorities were set before the start of the project. The Commission’s monitoring was limited to progress with legislative measures. It did not regularly and consistently monitor the progress towards achieving the CMU objectives.

In order to improve the effectiveness of the CMU project, we recommend that the Commission should:

1. propose well-targeted actions to further facilitate SME access to capital markets;
2. foster deeper and better integrated local capital markets;
3. address key cross-border barriers to investment; and
4. develop specific objectives, critical measures and the monitoring of the CMU.

We also invite the Council to consider how to take further the Commission’s proposal to address the asymmetric tax treatment of equity and debt.

Introduction

The free movement of capital is one of the four freedoms – along with the free movement of goods, services and labour – and a key objective of the European Union. The importance and benefits of creating a European capital market have long been discussed, including in the 1966 Segré Report, the 2001 Lamfalussy Report and earlier Commission Communications (e.g. from 1996, 1998 and 2011). While the emphasis, dimensions and challenges of the development and integration of capital markets have changed, the EU has never accomplished well-functioning integrated capital markets.

There are geographical discrepancies between Member States in the capitalisation, liquidity and depth of their local capital markets. Member States in the west and the north tend to have deeper capital markets and self-reinforcing capital hubs, while Member States in the east and the south are lagging behind (see Figure 1). Up to now, London has been the EU’s most important financial hub. The UK’s withdrawal from the EU represents a challenge to the CMU project.

Source: ECA based on New Financial data, September 2020.

Despite the efforts made in the aftermath of the financial crisis, most EU Member States’ economies still rely more heavily on bank financing than on capital market financing (e.g. private equity, venture capital, bonds). SMEs in Europe choose comparatively cheaper bank funding, allowing them to keep full ownership. Although non-bank financing has had an increasing relevance over the last decade, bank loans still accounted for around 45 % of total non-financial corporation debt financing in the euro area in 2018, down from around 60 % in 2007¹. Traditions and culture are an important factor in this respect, as illustrated by the home bias (i.e. a tendency to invest the majority of the portfolio in domestic assets). The lack of easily available information on companies and insufficient levels of financial literacy are further obstacles that constrain investors’ demand for capital market instruments.

The Capital Markets Union (CMU) is a large-scale initiative of the Commission. It was officially launched in the Commission’s Action Plan in 2015. This flagship project was announced as part of the Commission’s ten policy priorities and is an element in the third pillar of the Investment Plan for Europe aimed at improving the investment environment. The CMU is intended to complement the Banking Union by enhancing private risk sharing and ensuring overall risk reduction, and eventually to strengthen the Economic and Monetary Union (EMU).

The need for a CMU has never been as strong as it is today. Brexit has accentuated the political need to build deeper and more integrated capital markets in the EU, as the UK, the biggest and deepest capital market and the most important European hub of start-up finance, officially left the EU on 31 January 2020. Furthermore, global competition is increasing, as illustrated by factors such as innovative European SMEs leaving the EU in search of better financing and an environment, which is more conducive to fund fast-growing firms. In recent months, the Commission has included the economic uncertainty caused by the COVID-19 pandemic in its narrative as a further factor in favour of the CMU, which could potentially mobilise private funding and accelerate the recovery of the economy.

The CMU objectives

An important aim of the CMU is to help reduce high dependence on bank funding and cut the cost of raising capital, in particular for SMEs. According to the Commission, this goal should be realised by building a stable financial system in which deeper and integrated capital markets will absorb more of citizens’ savings and play a greater role in business finance. The EU banking sector is also set to benefit from the CMU, which includes measures to revive the European securitisation market.

By complementing the Banking Union and spreading risks across market participants, the CMU should contribute to a more stable financial system that is better equipped to boost growth, create employment and make Europe more attractive for foreign investment. Finally, more integrated, liquid and deeper financial markets in Europe would not only increase cross-border investment flows but also support a stronger international role for the euro.

The 2015 Action Plan and its 2017 Mid-Term Review included a set of legislative and non-legislative measures divided into seven intervention areas that should have had, amongst others, the cumulative effect of turning fragmented pieces of financial legislation into a cohesive regulatory framework. The legislative framework and non-legislative measures intend to build an investment ecosystem, which stimulates access to capital markets and economic growth. However, the regulation can facilitate the market’s operation but it cannot itself dictate it.

The CMU is an unfinished agenda with work ongoing. To date, most of the legislative acts have either not yet been implemented or were only recently implemented. To start preparatory work for a new blueprint, the Commission launched a High Level Forum on the Capital Markets Union made up of 28 high-level capital market experts. The Forum’s final report was published in June 2020 and includes a set of policy recommendations². The Commission published its new Action Plan³ in September 2020.

Roles and responsibilities in the CMU

Under the subsidiarity principle, certain key policy areas for the CMU (e.g. taxation, insolvency and financial education) are the responsibility of Member States. The success of the CMU initiative depends, therefore, not only on the Commission but also on the political will and ambition of the European Parliament, the Council, and the Member States.

Within the Commission, the planning, overall implementation and coordination of the CMU project is in the hands of the Directorate-General for Financial Stability, Financial Services and Capital Markets Union (DG FISMA), though other Commission departments are also involved. The Commission’s Directorate-General for Structural Reform Support (DG REFORM), created in 2020 to replace the Structural Reform Support Service (SRSS), provides technical support through the Structural Reform Support Programme (SRSP)⁴, among other tasks, to reinforce the capacity of Member States’ domestic capital markets. There is no specific budget associated with the running of the CMU.

The other key bodies in the functioning of the CMU are three European Supervisory Authorities (ESAs):

• the European Securities and Markets Authority (ESMA), which is the EU securities market regulator proposing implementing measures and specifying technical rules;
• the European Insurance and Occupational Pensions Authority; and
• the European Banking Authority.

Audit scope and approach

Given the importance of the CMU, we audited its design, implementation and effectiveness. Our report is intended to inform stakeholders and provide recommendations to the Commission to support further development of the CMU.

The actions we looked at relate to four out of seven intervention areas in the CMU Action Plan, namely: (i) financing for innovation, start-ups and non-listed companies, (ii) making it easier for companies to enter and raise capital on public markets, (iii) leveraging banking capacity to support the wider economy, and (iv) facilitating cross-border investment.

The overall question of the audit was whether the Commission has been successful in its actions towards building an effective CMU. To address this question we assessed whether the Commission:

1. helped diversify the financing of companies, in particular SMEs;
2. helped the development of deeper and better integrated local capital markets;
3. took effective action to tackle key cross-border barriers; and
4. equipped the CMU with a convincing performance framework.

For the purposes of our audit, we examined documentation available at the Commission and conducted interviews with relevant Commission staff. We reviewed a sample of 10 out of 54 CMU-relevant projects that were financed from the Structural Reform Support Programme (SRSP) and its preparatory action over the period 2016-2019. We used our professional judgement to select this sample (see Annex I for the list of projects) focusing on projects that were located in Member States with less-developed capital markets (see Figure 1). The selected projects were relatively advanced in terms of implementation, thus their results were more likely to be observable.

In addition, to gather information, we met authorities and stakeholders from nine selected Member States, i.e. Bulgaria, Czechia, Estonia, Italy, Lithuania, Luxembourg, the Netherlands, Poland and Romania. We also interviewed staff from the ESMA, the European Investment Bank, the European Investment Fund and the experts and representatives of the Organisation for Economic Co-operation and Development (OECD), the European Bank for Reconstruction and Development (EBRD), a number of business and investor associations, and stock exchanges.

We surveyed the authorities responsible for the regulation and supervision of local capital markets in all Member States (Ministries of Finance, national competent authorities (NCAs) and central banks), European and national business associations, investor associations and bank associations as well as stock exchanges in the EU.

We carried out our audit work from September 2019 to February 2020. Our audit work was completed prior to the outbreak of COVID-19, and therefore this report does not take into account any policy developments or other changes that occurred in response to the pandemic.

Observations

The Commission’s measures to diversify the financing options of SMEs have had no catalytic effect so far

In the EU, bank lending has always been the predominant source of funds to finance companies, especially SMEs. At the heart of the CMU initiative has been access to new sources of funding for SMEs, by complementing the bank-based finance with market-based finance (i.e. venture capital, private equity).

In recent decades, Europe generated many innovative start-ups, so-called ‘unicorns’, i.e. high-growth start-ups valued at over $1 billion (see Figure 2). An increasing number of companies of this kind, once they have passed the early growth stage, move outside the EU due to growth opportunities. The Commission has tried to stop this trend by supporting listing activities of SMEs through several measures in the scope of the CMU.

Source: Dealroom.co

There is large heterogeneity within the SME population, in terms of size, industry, age, activity and ownership, as well as many cross-border differences. Fast growing SMEs constitute around 11 % of the 25 million companies⁵ in the EU. Facilitating access to a diversity of funding sources for fast-growing SMEs is a longstanding policy for the Commission, starting in 1998 with a Commission action plan on risk capital⁶. The financing problem of SMEs, which varies along their growth stage (see Figure 3), has also been the focus of a number of Commission policies such as a 2011 action plan to improve access to finance for SMEs⁷. The 2015 CMU Action Plan is a continuation of the above-mentioned initiatives (see Annex II).

Source: European Commission.

In the CMU Action Plan of 2015 and its 2017 update, the Commission aimed to improve access to finance for SMEs by focusing on two intervention areas: (i) financing for innovation, start-ups and non-listed companies and (ii) making it easier for companies to enter and raise capital on public markets. The regulatory changes proposed were mainly revisions of previous rules (prospectus, SME growth markets, European venture capital funds (EuVECA)).

The Commission’s other intervention area was (iii) strengthening banking capacity to support the wider economy, which included covered bonds and securitisation. This policy action is not directly linked to the financing of SMEs, but addresses the possibility for banks to deleverage (i.e. to reduce their balance sheets) without cutting credit provision to the private sector.

In order to examine whether the measures under the CMU achieved their objective of diversifying the financing for SMEs, we assessed whether the Commission:

1. enhanced the possibilities for companies to finance expansion in their growth stages before going public (see Figure 3; including venture capital and private equity);
2. improved the access of SMEs to public markets (i.e. going public stage);
3. reduced information barriers that prevent SMEs from identifying sources of funding and prospective investors from investment opportunities; and
4. enabled banks to free up their lending capacity to support SMEs.

Partial results in supporting venture capital and equity financing

Within the CMU Action Plan, the Commission launched a package of measures to support venture capital and equity financing in the EU. The measures include regulatory reform, establishing a pan-European funds-of-funds and promotion of best practices on tax incentives (see Table 1).

EU venture capital and private equity markets are still characterised by big differences among Member States, as regards both the size of the SMEs’ financing gap and the availability of funding sources, in particular as regards institutional investors. Indeed, there is a huge fragmentation of the markets between the centres and peripheral parts of the EU in terms of venture capital and private equity investments (i.e. the localisation of the portfolio companies receiving the funds); these are mainly concentrated in a few Member States (i.e. France, Germany, the Netherlands, Denmark and Sweden).

The review of the regulations on EuVECA and European social entrepreneurship funds (EuSEF) was the first legislative measure included in the CMU Action Plan to promote cross-border oriented venture capital companies and support development of less developed areas among the European venture capital market. However, this measure only effectively increased the number of registrations of EuVECA funds in those Member States with well-developed venture capital markets (e.g. France and the Netherlands).

Our data analysis on EuVECA and EuSEF newly registered funds and our interviews with market participants and stakeholders have revealed that the EuVECA and EuSEF labels are still not used by the majority of venture capital funds and proved not to be decisive for the market expansion and the financing of SMEs. The results of our survey conducted among EU public authorities show that 22 % of respondents do not believe that the 2017 amendments to EuVECA regulation increased the level of investment in EU venture capital enterprises, whereas 45 % of them consider that it is too early to assess.

The establishment of the pan-European venture capital funds-of-funds represents a potential injection of €410 million in the market through the EU budget⁸. This measure is the only funding action within the CMU Action Plan. Outside of the Action Plan, the Commission is also active in financing SMEs providing significant funding through centrally and shared managed programmes. Although the expectation of raising €2.1 billion from private or public investors (i.e. to leverage the amount injected to the fund by five times) remains to be fulfilled, the fundraising and investment operations with three funds of funds are advancing with the effect of attracting private investments and increasing the size of the EU venture capital market.

To support private equity and venture capital markets, the Commission also published a report on tax incentives schemes for venture capital and business angel investment including best practice and presented this report in two workshops. There was no further follow-up to this action in the Member States.

The Commission made a legislative proposal to address the so-called debt-equity bias. In most Member States, interest on debt and the return on equity capital are treated differently, which prevents development and integration of markets. Because interest is deductible from the corporate tax base while returns to equity are not, there is a tax advantage for debt financing which influences financial decisions made by companies and investors. Because of this, the cost of capital for equity was estimated to be 45 % higher than the cost of capital for debt⁹.

The Commission has tried to address this issue under the CMU by proposing the introduction of a corporate tax offset allowance for equity issuance as part of the Common Consolidated Corporate Tax Base (CCCTB) proposal. However, the proposed solution has not yet been implemented due to the lack of agreement from the Council, which remains solely responsible for taxation matters.

SMEs’ access to public markets has to be improved

Raising equity financing on the public market is more difficult for SMEs than for larger companies because they fear losing ownership, and do not have the same capacity to comply with disclosure requirements and bear the associated costs (even up to 15 % of the amount raised). The Commission has set an objective of making it easier and less costly to issue bonds and equity in the public markets, while ensuring the protection of investors. For this purpose, the Commission launched a package of measures (see Table 2).

Macroeconomic conditions, such as liquidity on the market, investors’ appetite, interest rate level, expected economic growth rate, expected tax rate and inflation rate, can have a bigger impact than the costs of publishing a prospectus and determine a company’s choice to proceed to an IPO or not. In the aftermath of the financial crisis, the number of IPOs in the EU fluctuated, reaching a total of 90 IPOs in 2019, but it did not recover since 2009 (see Figure 4). The largest total number of IPOs in the EU was recorded in 2011, when the number of recorded IPOs reached 415¹⁰.

Source: ECA based on PwC, IPO Watch Europe 2009-2019.

The access to public markets for SMEs has so far not been significantly strengthened or become cheaper, as evidenced by our interviews and surveys. The costs associated with the publication of a prospectus only slightly decreased and the process is still burdensome and lengthy. In addition, the cost of advisory services as regards issuing a prospectus determines the bulk of costs associated with its publication, which is not easily influenced by the Commission’s actions.

Moreover, the changes in the regulation and the lack of harmonisation of national rules for issuances below the threshold under which a prospectus is not required, creates scope for regulatory arbitrage. Indeed companies planning to raise up to €8 million and established in a country where the obligation for a prospectus is above €1 million can make a cross-border equity issuance online (i.e. equity crowdfunding) through a platform established in another country with no prospectus obligation for issuances up to €8 million.

We note also that, when preparing the 2015 Action Plan, the Commission did not consider injecting any funding in support of SME IPOs, for instance in the form of a public-private fund. However, in March 2020 the Commission announced its intention to set up a public-private fund investing in public offerings¹¹.

Another measure of the CMU Action Plan, the Regulation on SME Growth Markets, included amendments to the Market Abuse Regulation and further changes to the rules on prospectuses to make it easier for SMEs to issue equity and debt on the SME growth markets. Furthermore, the Commission proposed additional rules to facilitate the registration of multilateral trading facilities as SME growth markets and to foster the liquidity of publicly listed SME shares to make these markets more attractive for investors, issuers and intermediaries. The legislative measure was adopted in 2019 and entered into force in January 2020. The enactment of this measure has sent a positive message to the SME ecosystem that EU policymakers are ready to introduce changes to the benefit of SMEs.

Limited impact in overcoming information barriers

Information barriers represent one of the main obstacles that affect the demand and the supply side of the SMEs funding market. On the demand side, SMEs face difficulties in determining the funding options available. On the supply side, investors have difficulties in assessing the creditworthiness of SMEs. The Commission has tried to address both of these issues (see Table 3).

On the demand side, the Commission encouraged a non-binding agreement between banks federations and SME associations on high-level principles to provide feedback by banks on rejected SME credit applications. We note that the initiative entirely depends on the uptake by the industry. The principles are still not yet known by the whole banking sector and such feedback would not have a massive impact on the loan applications of SMEs, as only 6 % of them were rejected in the euro area in 2019.

On the supply side, the attempts made to develop a pan-European information system containing information on SMEs were stopped, since a lack of budget and expertise made them unfeasible. The Commission concluded that EU intervention would not bring added value unless local and national authorities found solutions first.

We note that the establishment of an EU-wide digital access platform to companies’ public financial and non-financial information, the European Single Access Point (ESAP), has been under discussion since the adoption of the Transparency Directive in 2013. Even if the project could be highly relevant for the CMU to overcome information barriers, the Commission did not include it in its Action Plan but delegated it to ESMA. In 2017, ESMA deprioritised the project due to lack of budget, lack of comparability of company data from Member States and lack of mandate to validate company data submitted by Member States.

Actions to generate new bank lending to SMEs have had no observable effect

With its CMU measures under the intervention area to leverage banking capacity, the Commission aimed at facilitating bank financing of companies and the wider economy. We examined whether the Commission’s actions regarding the securitisation framework, covered bonds and European Secured Notes were effective in supporting banking capacity to support EU companies (see Table 4).

Given that SMEs usually have no direct access to the capital markets, a functioning securitisation market allows the transformation of illiquid loans into marketable securities. It can therefore be considered as an indirect financing instrument for SMEs. The measure under the CMU Action Plan, the new Simple, Transparent, and Standardised (STS) securitisation framework, was an initiative driven by both the regulator and the industry to essentially create a ”gold standard” indicating the highest quality securitisations.

Although the Commission considered its proposal as a ‘‘low-hanging fruit’’ within the CMU Action Plan, the legislative process required more than two years. While the STS Securitisation Regulation has been in effect since January 2019, the majority of the secondary legislation and guidelines that are required in order to interpret and ensure compliance with the Regulation came into effect only in September 2020.

We note that in its impact assessment for the Securitisation Regulation, the Commission did not provide any data or an estimate as to which share of the European securitisation market would meet the new STS criteria. The lack of legal clarity, caused by delays in the adoption of secondary legislation and guidelines, negatively affected the STS transactions in the short-term¹² (i.e. the first STS transaction was conducted on 21 March 2019, almost three months after the application date), but the situation gradually improved with 143 securitisations within the same year. By June 2020, a further 165 notifications were made making 308 in total.

In 2019, the new STS label covered almost half of the EU market share (46 % with around €100 billion; see Figure 5) but the overall securitisation market did not show signs of growth. Securitisation transactions remain largely concentrated within traditional asset classes such as mortgages and car loans.

Source: ECA based on Association for Financial Markets in Europe data and market estimates.

With regard to the results achieved, we note that SME securitisation issuance is still suffering from the 2007/2008 financial crisis and remains at low levels (10.6 % of total issuance in 2019, see Figure 6). In 2019, the overall issued volume of SME deals (€23 billion) was below the 2007/2008 levels and the pre-CMU period of 2014/2015 and the securitisation of SME loans made up only 1 % of STS transactions as of June 2020. Moreover, the SME securitisation is concentrated in a few Member States (Belgium, Italy and Spain, based on outstanding volumes as of June 2020).

NB: In Q1 2020, there were no SME securitisations.:

Source: ECA based on Association for Financial Markets in Europe and OECD data.

We note that in December 2019, the Council asked the Commission to assess whether to establish EU labels including "SME securitisation", "SME European Secured Notes (ESNs)", "SME investment funds" and loan originating funds with a view to improving the funding conditions for SMEs¹³. Moreover, the Commission, in association with the EIB Group, introduced securitisation vehicles to help finance SMEs, mostly in the Central, Eastern and South-eastern Europe (CESEE) region. Nevertheless, these transactions have not triggered an increase in private participation.

Shortcomings in the efforts to develop local capital markets

Well-functioning local markets offer to support private-sector financing and investments, ultimately leading to economic growth and job creation¹⁴. The EU capital markets remain heterogeneous and concentrated in Western and Northern Europe (see Figure 1).

The CMU Action Plan is aimed at developing local capital markets by reinforcing their specific capacities and facilitating their integration. Nevertheless, the policy measures taken need to fully observe the subsidiarity principle. National and regional authorities are responsible in the first place for developing local markets.

The Commission also provides funding sources (such as venture capital or loan guarantees) to support SMEs either via programmes managed centrally by the European Commission (such as the Competitiveness of Enterprises and SMEs programme – COSME) or via the European Structural and Investment Funds under shared management (i.e. funds whose management is shared between EU and the Member States). These actions do not fall under the CMU Action Plan. EU support covers a variety of different financial instruments (equity and debt, loan guarantees and venture capital, capacity building and risk sharing facilities)¹⁵.

Another way for the Commission to foster the development of local capital markets is through the European Semester, an annual cycle of economic and fiscal policy coordination introduced in 2010 to improve the EU’s economic and social sustainability. Each year, the Commission performs an analysis of each country's plans for budgetary, macroeconomic and structural reforms and then provides Member States with country specific recommendations (CSRs) for the next 12-18 months that are endorsed and formally adopted by the Council.

Under the SRSP, the EU provides technical support to EU Member States for institutional, administrative and growth-enhancing reforms, including the development of their capital markets. The SRSP is demand-driven; in other words, the Member States choose whether or not to submit project proposals for funding to the Commission.

We assessed whether:

1. the Commission has a comprehensive strategy to foster the development of local capital markets;
2. the European Semester was used to support CMU-related reforms in Member States; and
3. technical support provided under the SRSP effectively helped to develop capital markets.

Lacking a comprehensive strategy for the development of local capital markets

In the CMU’s Mid-Term Review in 2017, the Commission planned to prepare a comprehensive EU strategy on local and regional capital market developments across the EU. This was one of nine new priority actions in the CMU agenda. The Commission did not issue a distinct strategic report, as it did for example for sustainable finance and Fintech in March 2018¹⁶. It rather just reported¹⁷ with a delay of nine months on actions that could be taken at national and regional level to develop capital markets. This fell short of the expectations created by the Mid-Term Review (see Annex III). It was not a strategy in the sense of presenting a long-term perspective covering comprehensively all capital market segments, and did not include any concrete actions to be taken by the Commission.

In our survey, the majority of the Member States’ authorities were of the opinion that the CMU Action Plan largely adopted a ‘one size fits all’ approach and that it did not specifically foster the development of local markets (see Table 5).

The European Semester is not used to its full potential to foster capital markets reforms

We examined whether the Country Reports identified important risks with regard to the development of capital markets and whether the Commission addressed country-specific recommendations (CSRs) to Member States with underdeveloped capital markets.

In our sample, we found that the Country Reports identified important risks and served as a good basis for formulating CSRs aiming at the development of capital markets and better access to alternative sources of financing for companies. However, there were some cases where challenges in areas such as market developments, governance and supervision could have been better reflected in the 2018 or 2019 Country Reports. Moreover, no Country Report in our sample included specific indicators referring to the domestic capital markets.

We observed that nine Member States during the 2016-2019 period, i.e. after the adoption of the CMU Action Plan, were requested to implement reforms aiming at capital markets and better access to non-bank finance. Annex IV provides the list of the recommendations that we took into consideration.

Our analysis of the less developed capital markets within the EU showed (see Annex V) that, for at least four consecutive years, the Commission did not recommend the implementation of directly related reforms in ten Member States, although these Member States still have a less developed capital market than the EU average. In five out of these cases (Bulgaria, Croatia, Greece, Latvia and Slovakia), the Commission proposed recommendations on broader challenges affecting the financial sector, such as supervision of financial services or the judicial system which can have an impact on the local capital market, albeit mostly indirect. Thus, for five Member States with less developed capital markets, no CSRs were issued that were either directly or indirectly relevant to the CMU objectives¹⁸.

While we acknowledge that the capital market topic is only one of many policy challenges to be addressed in the European Semester process, the criteria and rationale for prioritising the areas on which to propose CSRs is not clearly documented by the Commission¹⁹. Moreover, we did not find specific recommendations aiming at promoting cross-border integration of local capital markets for the design and implementation of pertinent reforms.

In line with the ECA’s Special Report on the European Semester²⁰, we also noticed that within one CSR, CMU-relevant reforms were mixed with other policy areas, even unrelated ones (e.g. employment, social inclusion). Furthermore, CSRs related to capital markets lacked targets against which to benchmark progress based on a clear timetable for implementation²¹.

With regard to the CMU-related CSRs from 2016, 2017 and 2018, we noted that the Commission’s assessment had found that the progress made by the end of 2019 had been partial. None of the Member States involved had fully or substantially implemented the recommended reforms, suggesting that the timeframe was too short or there had been an issue of national ownership by Member States to implement CSRs.

Technical support is largely appreciated, but the results are still to come

We assessed whether the Member States with less developed markets benefited from projects under the SRSP and whether the projects provided added value and led to positive results in the Member States.

In the CMU Action Plan, the Commission committed to developing a strategy for providing technical support to Member States to support capital markets' capacity by Q3 2016, an additional measure to the EU's comprehensive strategy on local and regional capital markets (see paragraph 57). However, in September 2016 and pending the adoption of the SRSP Regulation, the Commission reported that it had developed capacity to provide technical support and would work with Member States to identify priority areas but that it had not published any strategic documents.

The SRSP support is demand-driven and does not require co-financing from Member States. It covers the entire process cycle from the preparation and design to the implementation of a project. Over the period from 2016 to 2019, the SRSP and its preparatory action financed 54 CMU-relevant projects with a budget of €14.31 million in 20 Member States.

As regards the reasoning provided by the national authorities to apply for technical support, all 10 requests of our sample referred to the implementation of the CMU as a Union priority. In half of the cases (five requests), the authorities claimed that the request was in line with their own reform agenda. Only one Member State from the sample (Lithuania) had received a CMU-relevant CSR and the project request referred to this CSR as a relevant circumstance. Two other Member States (Bulgaria and Italy) had received wider CSRs (relating to insolvency and supervision) but their requests were not linked to those CSRs.

Figure 7 presents the number of projects approved and their budget in each Member State. The figure shows that there are significant divergences among countries with less developed capital markets (e.g. Croatia and Romania in comparison to Bulgaria, Hungary and Slovakia).

Source: ECA based on SRSS data.

The SRSS succeeded in supporting more than one CMU-relevant project in nine Member States. However, we found that six Member States (Slovakia, Bulgaria, Hungary, Greece, Cyprus and Austria) with less developed capital markets had implemented zero or one CMU-relevant projects. Three of them had submitted either a low number of requests (one each by Slovakia and Bulgaria) or none (Austria).

Although the intervention logic of the SRSP was not formally oriented towards the specific needs of EU capital markets, the objectives of the CMU were addressed in each individual project. Furthermore, the selected projects clearly demonstrated a link with the identified national needs. They also addressed most of the priorities for policy actions identified by the Vienna Initiative in 2018²². We noted that within the group of the CESEE countries, only one out of six submitted requests relating to financial literacy, which is a key issue for less developed capital markets (see paragraph 82), was selected (Czechia). The others were rejected partially due to a lack of project maturity.

The SRSS intended to adopt a three-stage/step-by-step approach in sequencing interventions, i.e. first comprehensively analyse the current state of capital market development, then assist to improve access to market infrastructure and, finally, support efforts in deepening and widening of capital market access. For this purpose, the SRSS set seven broad areas and 26 types of CMU-relevant projects to be potentially supported²³. The document stating this approach was provided to selected Member States visited on the spot in 2017 and 2018.

In six out of 13 Member States with relatively less developed capital markets (Lithuania, Slovenia, Slovakia, Hungary, Greece and Cyprus), the SRSS did not closely follow this approach. However, this does not imply that the projects selected were not relevant or that they did not foster the development of capital markets. While a capital markets diagnostic or strategy did not exist for those Member States, the SRSS approved projects submitted by these countries that were addressing particular sectors of their capital markets.

By March 2020, only two multi-country requests were submitted by Member States, both of them by Estonia, Latvia and Lithuania (see Box 1). These were approved under the SRSP. Despite significant challenges to coordinating such projects across all Member States involved, their potential results and impact on the region can be significant.

Box 1

Covered bonds – legal and regulatory reforms

The SRSS (presently DG REFORM), together with the EBRD, is supporting the Baltic States with the introduction of a pan-Baltic covered bond framework, contributing towards well-functioning and larger capital markets in the region, opening up long-term funding options for banks, and increasing the level of lending to economies. It is envisaged that each Baltic State will have its own covered bond law and secondary regulations, and so the pan-Baltic covered bonds issuance will be achieved on the basis of the overall framework. In Estonia, the law on covered bonds was adopted by the Parliament in February 2019 but further amendments are required to fully include the pan-Baltic angle and align it with the EU covered bond legislative package. The following diagram illustrates how the covered bond framework will operate:

Source: EBRD.

As regards the timely delivery and respect of milestones, we found several shortcomings with regard to projects in our sample. In almost all these projects, the contracting and implementation phases lasted longer than initially estimated and there were delays in the submission of the final deliverables compared to the initial schedule in the SRSS analysis. Five projects have taken (or are expected to take)considerable time in order to be finalised from the submission of the requests (between 30 and 40 months), mostly due to the abovementioned delays.

When it comes to results achieved, a conclusion is not yet possible as most projects were still under implementation at the end of the audit. Similarly, in our survey, the majority of Member States’ authorities (57 %) did not comment on the importance of the technical support provided to them as they consider that more time is needed to reach a solid assessment. Nevertheless, we noted that the results so far were mixed within our sample. For half of the eight completed projects (i) not all recommendations initially suggested by the contractor were eventually included in the final report or considered for implementation by the national authorities and (ii) the overall implementation of recommendations included in the studies is rather low.

As required by the SRSP Regulation, the SRSS monitors the results of the technical support it provides. In this context, the SRSS sends out two questionnaires to the beneficiary authorities. Market participants not involved in the project implementation are not asked to participate, even though they are in a position to provide independent, practical and broader feedback.

The Commission has taken some action within its remit but has not fully tackled key cross-border barriers

Cross-border investments are impaired by the fragmented European market along national boundaries. The lack of market integration is reflected by the low proportion of assets held by collective investment funds (UCITS and AIFs) that are registered for sale in more than three countries. Statistics show that while the market for collective investment funds in Europe has grown, market activity is concentrated in a few countries²⁴. As of June 2017, approximately 70 % of all assets under management were held by investment funds registered for sale only in their domestic market²⁵.

In their report of 24 March 2017²⁶, the Commission and the Member States identified three types of barriers that impede cross-border capital flows at different stages of the investment cycle. The report resulted in a Joint Roadmap of actions, which included only those barriers that Member States were ready to address. As part of the CMU Action Plan, the Commission set up an expert group in 2016, the European Post-Trade Forum (EPTF), to undertake a broad review of the progress made in the field of securities post-trading and in the removal of Giovannini barriers (inefficiencies in the cross-border clearing and settlement arrangements identified in 2001 and 2003)²⁷. Some of the barriers identified by the Commission and Member States were also flagged up by the EPTF in its subsequent report of 15 May 2017²⁸. Both reports suggest that many of the barriers impeding cross-border capital flows have remained unresolved for decades.

Based on the two reports, the Commission has proposed legislative as well as non-legislative measures to alleviate barriers to cross-border capital flows. We audited measures under the CMU relating to financial literacy of investors and particularly SMEs, insolvency law and withholding taxes (see Figure 8).

Source: ECA.

The Commission could have done more to promote financial literacy among SMEs

OECD surveys of financial literacy confirm that levels of financial literacy measured in terms of financial knowledge, behaviour and attitudes remain heterogeneous across the EU. They also show that gender, age, digital skills and financial resilience matter for financial literacy²⁹. The aforementioned heterogeneity in levels of financial literacy is also evident amongst SMEs. The Commission and European Central Bank’s SAFE survey³⁰ shows that most small companies’ managers do not feel confident in talking to equity and venture capital providers rather than banks about finance. This appears more pronounced in Central and Eastern Europe than the rest of the EU.

While the CMU Action Plan did not contain any specific commitment to address financial literacy, the Commission and Member States identified insufficient levels of financial literacy as a barrier that deters investors from maintaining or increasing their cross-border exposure. They committed in the joint roadmap of actions to "start exchanging best practices on financial literacy programmes, taking into account the cross-border dimension".

In line with this commitment, a sub-group of 18 Member States chaired by Croatia took up the task and produced a non-paper in 2018 that was endorsed by the joint Commission and Member State Expert Group on barriers to the free movement of capital. Amongst others, the non-paper recommends that Member States measure financial literacy levels and implement evidence-based and accessible financial education programmes. It also states that initiatives tackling the cross-border dimension of SMEs are lacking. Further, “the cross-border dimension of SME financial literacy would be difficult to address since there is still much to be done at national level”. Some Member States called for the EU to address this important issue.

In the area of financial education, the primary competence lies with the Member States. The recommendations of the non-paper leave open how the EU should exercise its competence to support Member States in fostering financial literacy, including among SMEs. The Commission has not yet decided how to move forward. In our survey of public authorities, 73 % were of the opinion that the Commission, alongside Member States, should have proposed and financed concrete actions within the CMU initiative to increase financial literacy among retail investors and entrepreneurs. However, at the same time there was a lack of support from Member States, which is why the Expert Group on barriers to the free movement of capital was put on hold in 2018³¹.

We note that the Expert Group’s non-paper on financial literacy did not systematically consider how existing EU funding programmes and platforms including the Enterprise Europe Network and the European Investment Advisory Hub are already being used to foster financial literacy and how they could potentially be used more effectively to this end. For instance, the Enterprise Europe Network launched by the Commission in 2008 is intended to help businesses innovate and grow on an international scale, among other things by providing advice on finance and funding. Similarly, the services available via the European Investment Advisory Hub include financial advice to enhance companies’ ability to access adequate sources of financing³².

The Commission’s actions are unlikely to lead to a substantial convergence of insolvency proceedings

Strong and efficient insolvency frameworks are conducive to cross-border capital market transactions. According to the CMU Action Plan, the inefficiency and divergence of insolvency laws currently makes it difficult for investors to assess credit risk, particularly in cross-border investments. The Commission states that a convergence of insolvency and restructuring proceedings would facilitate greater legal certainty for cross-border investors and could thus encourage more cross-border activity.

As announced in the CMU Action Plan and the Mid-Term Review thereof, the Commission proposed two legislative initiatives and one non-legislative measure on the issue of insolvency.

• The Directive on early restructuring and second chances³³ mainly establishes minimum standards for procedures that restructure viable companies before they go insolvent and for procedures leading to a discharge of debts.
• The Proposal for a regulation on the law applicable to the third-party effects of the assignment of claims³⁴ seeks to introduce uniform conflict of law rules that clarify which laws assignees must observe in order to acquire legal title over the assigned claims.
• The Communication³⁵ on the applicable law to the proprietary effects of transactions in securities clarifies that there are different ways of determining where a securities account is maintained or located and that all definitions are equally valid for the purposes of determining which conflict-of-law rules apply in the event of insolvency or another dispute.

While the two legislative acts are still pending approval by the Council or transposition into national law, neither of the actions is suited to bring about a substantial convergence of insolvency proceedings, as they largely address issues faced by market participants prior to entering into insolvency proceedings, such as the restructuring of viable companies and clarifying ownership rights. They also support market participants with the consequences resulting from insolvency, such as a debt overhang and the difficulty of starting a new business venture. While a convergence of insolvency proceedings is not one of the main objectives of the CMU, the Commission has stated its intention to foster such a convergence in the CMU Action Plan³⁶.

So far, the Commission has refrained from taking further action on harmonising core elements of insolvency proceedings. This is because substantive insolvency law remains the sole competence of Member States, and the EU’s role is limited to developing judicial cooperation in civil matters with cross-border implications. According to interviews with the Commission, during the Council negotiations on the proposal for the Restructuring and Insolvency Directive, and already in pre-meetings consulting Member States before the actual proposal, the reluctance of Member States to address core areas of insolvency laws was obvious.

However, a comparative study on substantive insolvency law in the EU³⁷, contracted by the Commission in 2016 suggested that there was room for harmonising aspects of insolvency proceedings. On the one hand, the study revealed that there are vast differences in national insolvency frameworks, which make it difficult to arrive at a common approach onto which to harmonise. On the other hand, the study raised issues that are deemed appropriate for the EU legislator to consider taking forward, including qualifications and training of insolvency practitioners, the ranking of claims and order of priorities, avoidance and adjustment actions and procedural issues relating to formal insolvency proceedings.

The results of our survey of public authorities show that over 50 % of the respondents believe the Commission should prioritise finding common ground in particular on: a) the conditions for opening insolvency proceedings, b) the definition of insolvency, and c) the ranking of insolvency claims (see Figure 9). 23 % of respondents indicated that the Commission should lay down common ground for avoidance actions.

Source: ECA.

The Commission issued a sound Code of Conduct on Withholding Tax but it is not binding

A withholding tax is a direct tax levied on passive income including interest, dividends, royalties and capital gains. The tax is withheld by either the resident or the source country or both, and the investor must apply to reclaim the tax or obtain a refund. In their report on cross-border barriers (see paragraph 80), the Commission and Member States identified discriminatory and burdensome procedures for claiming relief from withholding taxes as hampering cross-border investment. Similarly, the EPTF flagged inefficient withholding tax collection procedures as a priority for action to improve the post-trading environment in the EU³⁸.

To address these issues the Commission published on 11 December 2017 a Code of Conduct on Withholding Tax. It mainly recommends that governments take steps to implement simplified tax refund procedures among which a standardised and harmonised system for providing tax relief at source so that treaty entitlements and exemptions are directly applied and are put in place. However, the Code is non-binding and not firm enough in places, for example on deadlines by which tax authorities in Member States must process requests for reclaims.

While the Commission has been active in promoting simpler withholding tax procedures within the EU, it has so far refrained from proposing more than a non-binding code of conduct as the legal and political hurdles of doing otherwise would be high. In particular, also in the light of difficult discussions at international level, it did not propose a directive based on Article 115 TFEU because doing so would require:

• the Commission to show that its lack of action directly affects the proper functioning of the internal market, and
• unanimity in the Council and a special legislative procedure.

Since 1975, the Commission has attempted to find a common solution concerning withholding tax on dividends based on Article 115 TFEU but has not been successful. A more recent Commission Communication proposing a step-by-step transition towards qualified majority voting in the area of taxation³⁹ was rejected by a majority of Member States.

Instead, the Commission has monitored the implementation of the code of conduct through a questionnaire and workshops with Member States. Both highlighted, among others, the following areas for further improvement:

• digitalising the submission of refund claims, and
• introducing the possibility of accepting alternative proofs of tax residence.

Further, in the framework of the Tax Administration EU Summit, Member States’ tax administrations agreed in May 2020 that the Commission will organise a dedicated stream of work to explore legislative and non-legislative initiatives to address the current challenges on WHT procedures, including a potential relief at source system.

On 15 July 2020, the Commission issued an Action Plan for fair and simple taxation⁴⁰. As tax barriers to cross-border investment persist despite the Withholding Tax Code of Conduct, the Commission announced that it would propose a legislative initiative for introducing a common and standardised, EU-wide system for withholding tax relief at source, accompanied by an exchange of information and cooperation mechanism among tax administrations. In 2022, the Commission intends to produce an impact assessment possibly leading to a Commission proposal for a Council directive introducing a system of relief at source.

The CMU lacked a convincing performance framework

We examined whether the Commission:

• set up specific, measurable, achievable, reasonable and timely objectives and sufficiently prioritised the measures;
• communicated clearly with the public about the CMU; and
• put a comprehensive monitoring system in place.

The objectives of the CMU were rather vague and the priorities were set late

The CMU Action Plan and its Mid-Term Review were accompanied by a detailed economic analysis. As regards the consultation process for the Commission’s 2015 Green Paper on the CMU and for its 2017 update, the Commission organised the process well and communicated well on the results; this was confirmed by our survey. The CMU mainly evoked the interest of the financial sector and of four big Member States. There was less interest from other businesses/SMEs and Member States with less developed capital markets.

The CMU Action Plan builds on three levels of objectives: two overarching, three strategic and three operational. Under the operational objectives, the Action Plan is split into seven areas of intervention, which are in turn split into 25 specific objectives. The specific objectives are implemented through a total of 71 measures. This intervention logic (i.e. objectives tree; see Figure 10) was presented in a general way only in the Mid-Term Review. The links between the four audited intervention areas, their multiple specific objectives, underlying measures and their cross-impacts were not explained in any Commission document, although required under the Better Regulation framework⁴¹.

Source: European Commission.

A prioritisation and sequencing of actions would have been important for the project from its very beginning, as both the Action Plan and the Mid-Term Review contained a large number of measures. The measures were not all of the same weight: some were preparatory, administrative or monitoring in nature, while others related to legislative proposals or other non-legislative measures, which were intended to be strategic in nature. The Commission did not set explicit priorities amongst the actions of the 2015 Action Plan. Instead, prioritisation was only implicit through the timing of the various actions, reflecting feasibility and need for preparatory work.

This was due to the fact that the Action Plan was prepared as a matter of urgency and thus there was no analysis upfront of whether any of the measures would have a stronger effect than others. Nine priority actions were introduced only in the 2017 Mid-Term Review. Our surveys and interviews revealed that the narrative of the CMU project was not fully clear and its visibility was limited to the specialised audience. Further, even the specific objectives for each area of intervention were vague and not measurable.

To support the CMU objectives, the Commission used general estimates in some cases (see Box 2).

The CMU Action Plan did not necessarily list all actions that were ongoing or under reflection by the Commission and which matched the project objectives. An example is the ESAP (see paragraph 43).

The CMU measures could not realistically fulfil the high expectations raised by the Commission

The launch of the CMU and the communication around this flagship project were perceived by market participants as a substantial commitment by the Commission to induce a significant positive impact. The communication on the project raised expectations that were higher than it could realistically achieve with the measures it proposed and that are within its remit.

The Commission intended with its 2015 Action Plan to lay down the foundations for a well-functioning CMU by 2019. The EU companies’ reliance on bank finance and deficiencies in development of EU capital markets are a reflection of various structural factors, which cannot be alleviated or shifted by an action plan over a few years. In March 2019, the Commission nevertheless announced in its progress report that it delivered on its promise within the timeframe.

However, analysis from public bodies (International Monetary Fund, European Central Bank), private associations (Association for Financial Markets in Europe, European Banking Federation), industry-led initiatives (Market4Europe) and think tanks (Bruegel, Centre for European Policy Studies, Eurofi) provide an indication that the CMU is far from being completed and a lot of work still remains to be done. This indication is backed up by high-level market indicators, such as the European Central Bank’s financial integration indicators, the debt to bank lending ratio, or households’ composition of financial assets. In fact, these indicators have not moved much compared to the time before the launch of the CMU Action Plan.

The opinions among the respondents to our surveys are split whether the CMU Action Plan and its update were overambitious, not demanding enough, or well thought out and in line with its objectives. The respondents who criticised the CMU as overambitious primarily cited its complexity that negatively affected its feasibility. Second, they stated that the Commission underestimated the time required to get the CMU and Mid-Term Review measures approved by the co-legislators. As repeatedly mentioned by the stakeholders that we interviewed, the ambitions for the CMU should be high and driven by the Commission but at the same time, the project should be realistic and feasible enough to make progress.

The key actions and levers depend on other actors, in particular the co-legislators and Member States. As indicated above (e.g. paragraphs 85, 90 and 96), the support of Member States is crucial as regards areas that are of national competence. The Commission stated in the CMU Action Plan and the Mid-Term Review that it cannot build the CMU alone and that the success of the project depends also on the political will of the Member States and on the uptake by the industry.

In terms of legislative measures, the Commission focused on a rather limited legislative programme comprising 13 initiatives (see Annex VI). However, in several cases, the Commission had to significantly scale back its initial ambitions in order to reach an agreement among the co-legislators, as for instance in the case of the review of the ESAs, or leave out of the CMU politically controversial issues such as the European safe asset.

In some other cases, even when the Commission tabled its legislative proposals for CMU measures largely on time, the legislative process lasted longer than expected (see paragraph 46). Similarly, the Commission’s proposal for a directive on a CCCTB, which is important to overcome the debt-equity bias, stalled in the Council (see paragraph 33). Overall, 12 (out of 13) legal measures have been adopted and entered into force by now, mostly towards the end of the CMU timeline. Only five of those entered into force are already fully or partially applied, while the remaining seven are to be gradually applied and will become effective by mid-2022, or even later (see Annex VI).

The majority of the non-legislative measures (i.e. expert studies, best practices, consultations) were useful for knowledge building and sharing as regards specific market segments and, in some cases, led to a legislative proposal (e.g. crowdfunding, covered bonds). However, due to their preparatory and non-binding nature, they could not make a real change. An example is the Commission’s Communication on the law applicable to the proprietary effects of transactions in securities, which did not significantly improve legal certainty compared to the status quo.

The Commission did not regularly monitor overall progress towards achieving the CMU objectives

Monitoring is necessary to allow policy makers and stakeholders to check if policy implementation is "on track" and to generate information that can be used to evaluate whether it has achieved its objectives⁴⁴. Monitoring can take place at different levels (i.e. at the strategic level or at the level of individual policy measures), at different points in time (at the point of implementation, during or after policy implementation) and with varying frequency (annually, quarterly etc.).

We audited if the Commission has put in place adequate arrangements for monitoring the implementation of the CMU overall. This includes the choice of indicators used to monitor CMU developments and the data used to report on them.

The Commission has so far used a number of tools (see Figure 11) to review and report on CMU actions as well as developments on capital markets. However, neither of the tools have been specifically dedicated to regularly monitor overall progress on the CMU’s seven areas of intervention.

Source: ECA.

While the Commission started to assess capital market developments relevant to the seven areas of intervention of the CMU⁴⁵ in the 2016 edition of the Economic and Financial Stability and Integration Review – a general-purpose publication first initiated in 2007 – it did not update this framework going forward. Furthermore, many of the key indicators of the 2016 EFSIR lacked baseline measures and target values.

The Commission’s main reason for not maintaining the monitoring system set up with the 2016 EFSIR was the nascent stage of the CMU, with many of the policy measures still in the process of being enacted, and the substantial time lag within which changes in financial structures become visible in quantitative statistics. However, these issues should not have precluded the Commission from setting up monitoring arrangements and developing them over time.

In 2020, i.e. five years after the start of the CMU and on the invitation of the Council, the Commission contracted a study with a view to developing a dashboard of key performance indicators for monitoring progress on the CMU. In line with the proposal, the contractor attempted to establish an evidence-based intervention logic. In this approach, the contractor sought to determine how changes in more immediate outcomes of CMU policy measures (e.g. costs of listing) affect the main CMU objectives (e.g. the relative share of non-financial corporations’ listed equity and debt financing relative to bank lending).

In its draft final report, the consultant suggested over 50 indicators on four areas⁴⁶ for possible inclusion in the dashboard and recommended that the Commission give further thought to purpose, user group, structure and maintenance when designing its dashboard of KPIs. Meanwhile, the Commission has taken steps to develop additional indicators, for example on market integration, as the contractor’s work showed that many of the more immediate outcome indicators needed for the intervention logic are either not available or not suitable in the sense that they crossed one of the three red lines⁴⁷.

In order to report on indicators, suitable data is needed. We note that the data required to monitor progress on individual CMU policy measures was sometimes not available or not available in sufficient quality and granularity. This may also hinder prospects of trying to measure progress on CMU implementation overall. In particular, the lack of reliable information on the cross-border distribution of investment funds is a well-known data gap that was acknowledged by ESMA during the course of our audit.

In the set-up phase of the CMU, the Commission has tried to make the best of the situation by accumulating data from a number of sources, including from ESMA. For instance, while ESMA keeps information on the number of EuVECA and EuSEF registered funds, other data such as funds raised and investments made were acquired from non-Commission sources such as Invest Europe. Furthermore, ESMA largely relies on private sources (e.g. BAML) for its estimations of the non-STS securitisation market. The reliance on private data suppliers can be problematic, as assembling the data is time-consuming, often costly in monetary terms and the Commission may not be in a position to judge its quality.

The Commission has taken steps to include data clauses in relevant CMU legislation to ensure the information needed for monitoring and evaluation purposes – if not available and accessible through other sources - is being collected. For instance, new CMU legislation⁴⁸ obliges ESMA from 2022 onwards to host an EU-wide register with data on cross border distribution for UCITS, AIFMD and other funds. The Commission has stressed that additional reporting requirements imposed on industry have to be carefully justified.

Conclusions and recommendations

The EU has a predominantly loan-based financial system relying strongly on bank-based financing. The Commission made efforts to move towards more market-based financing and to supplement the Banking Union by a CMU. The main goals of the CMU were to foster the development and integration of EU capital markets and to increase alternative funding for SMEs. Our overall conclusion is that the Commission has made first steps towards this challenging goal, but the results are still to come.

Many of the measures that the Commission was able to take within its remit are small steps towards its objectives, but were not able to act as a catalyst for change in the EU so far. Although non-binding soft measures, such as reports or best practices contributed to knowledge-building on specific capital market segments, many of them had rather a limited impact due to their nature. A limitation the Commission also faced is that many of the key actions can only be undertaken by the Member States or with their full support.

The 2015 CMU Action Plan has been done in continuum with the previous plans, mainly taking up earlier ideas and including measures already in the pipeline or proposing calibration of the existing regulations (i.e. prospectus, EuVECA), in order to progress on specific segments of the capital markets. Many of the policy measures towards the objective of diversifying funding sources for SMEs were addressing issues too narrow to initiate and catalyse a structural shift towards more market funding in Europe (see paragraphs 20-39).

Despite the Commission’s efforts under the CMU Action Plan, its actions to overcome information barriers for the financing market for SMEs have had a very limited impact as regards facilitating the matching of market players’ interests. The Commission did not include a relevant project in the CMU Action Plan, ESAP, which was under discussion before the 2015 CMU Action Plan. As a result, information barriers on the demand and supply side still prevail (see paragraphs 40-43).

Regarding the challenge of bank financing, the Commission took initiatives to improve their capacity to provide credit to EU companies. While the STS initiative was a positive step, it has not yet produced the anticipated effect in the European securitisation market and facilitated the financing of SMEs. Securitisation transactions remain largely concentrated within traditional asset classes (i.e. mortgages, car loans) and in certain Member States (see paragraphs 44-50).

The Commission should provide:

1. measures to increase the attractiveness of equity financing and public issuance for companies, in particular SMEs;
2. measures to reduce the impact of the information asymmetry between suppliers and users of capital, in particular SMEs (e.g. by establishing the ESAP); and
3. amendments to the legal framework to make SME securitisation issuance more attractive while duly considering the potential risks.

Timeframe: Q1 2022

The Commission had declared its ambition to promote the development of Member States’ capital markets, in particular in the countries with high catch-up potential. For this purpose, it used broader EU coordinating processes (European Semester) and financing tools, such as the SRSP, but not within a specific, comprehensive and clear EU strategy (see paragraphs 51-58).

The European Semester mostly identifies CMU-relevant challenges. However, in spite of the adoption of the CMU Action Plan in 2015 and the increasing relevance of the subject after Brexit, the Commission had not recommended to ten Member States with less developed capital markets that they implement directly relevant reforms (see paragraphs 59-65).

While the Commission provides technical support under the SRSP with a low level of financial and administrative burden to the Member States, this support is not embedded in a specific strategy. The demand-driven model of the technical support was not conducive in providing support to Member States corresponding to their needs. Moreover, multi-country projects are still the exception under the SRSP. Most projects were still ongoing or recently finished. Nevertheless, our sample showed mixed results in terms of scale and progress of reforms. Furthermore, in most cases, the initial timetable of implementation was not respected and the SRSS analysis did not properly reflect the implementation risks (see paragraphs 66-78).

The Commission should:

1. develop a comprehensive strategy to address the needs of local capital markets;
2. issue CSRs for Member States that need to progress in market-based financing; and
3. enhance the current demand-driven model of the technical support to reach those Member States with the highest needs, while focusing on results.

Timeframe: Q4 2022

Many of the barriers impeding cross-border capital flows have remained unresolved for decades. The Commission identified that such barriers often emanate from national laws, including in the fields of insolvency law and withholding tax or from a lack of financial education. Accordingly and based on a request from the Council, it devised a roadmap jointly with Member States for addressing them, which meant that only barriers that Member States were willing to tackle were included (see paragraphs 79-81).

The Expert Group on overcoming national barriers to capital flows recommended in 2018 that Member States measure financial literacy rates and implement financial education programmes in line with OECD principles. The Commission has not yet stated if and how it will support Member States in their efforts, for example, by reviewing relevant EU funding programmes with a view to better fostering financial literacy of consumers, investors and SMEs across Europe (see paragraphs 82-86).

The Commission’s actions on the issue of insolvency have the potential to clarify ownership rights, facilitate early restructuring and give entrepreneurs a second chance. However, they are unlikely to lead to a convergence of insolvency proceedings. As substantive insolvency law remains in the sole competence of Member States, the Commission has little leeway to move ahead without their support (see paragraphs 87-92).

The Commission’s Code of Conduct on Withholding Taxes proposes best practices to tackle burdensome relief and reclaim procedures. However, it relies on voluntary commitments from Member States and a more binding approximation of national practices based on the recommendations of the Code require unanimity in the Council. Previous attempts to reform withholding tax procedures on this basis have not been successful (see paragraphs 93-99).

The Commission should:

1. assess how it can better promote financial literacy, including among SMEs, and support Member States’ efforts in this area;
2. assess scope for convergence or harmonisation of elements of national insolvency proceedings such as the criteria for opening insolvency proceedings, the hierarchy for ranking claims, the order of priorities and avoidance actions, and promote concomitant reforms; and
3. depending on the outcome of an impact assessment, propose to the Council a Directive on a system of withholding tax relief at source.

Timeframe: Q4 2022

The Commission’s CMU objectives were in many cases vague. The priorities were set only late in the process. The Commission’s communication around this project raised expectations that were higher than what it could achieve with its own actions. In some cases, the co-legislators significantly scaled back the ambition of the Commission’s initial proposals or the proposals stalled in the Council due to lack of consent (see paragraphs 100-114).

The Commission’s monitoring was limited to progress with legislative measures, it has not regularly and consistently monitored if it is progressing in accomplishing the main CMU objectives. Furthermore, it is currently unable to assess to what extent its policy actions – both legislative and non-legislative measures – are contributing to progress on CMU objectives. Further, assembling the data required to monitor progress on CMU objectives is time-consuming, often costly in monetary terms and the Commission may not be in a position to judge its quality. Not all data is readily available in sufficient quality and detail. These shortcomings are particularly detrimental in view of the release of the second CMU action plan in September 2020 (see paragraphs 115-119).

Five years after the start of CMU, the Commission has taken steps to develop a dashboard of indicators. A dashboard can be used to assess the success of CMU as a whole. It should be rooted in an evidence-based intervention logic and be based on the selection of suitable indicators. Data to compile indicators should be made available, keeping in mind the need to keep reporting burdens on industry to a necessary minimum (see paragraphs 120-124).

The Commission should:

1. define specific objectives and address the critical measures which are effective for achieving the CMU objectives early on;
2. regularly monitor and report on progress towards achieving the CMU objectives; and
3. select indicators that are suitable and based on reliable, timely and available data.

Timeframe: Q4 2021

This Report was adopted by Chamber IV, headed by Mr Alex Brenninkmeijer, Member of the Court of Auditors, in Luxembourg on 20 October 2020.

For the Court of Auditors

Klaus-Heiner Lehne
President

Annexes

Annex I – Overview of the audited CMU-relevant SRSP projects, 2017-2018

NB: The beneficiary in all cases was the national Ministry of Finance or similar (Italy: Ministry of Economy and Finance; Romania: Ministry of Public Finance).

Source: ECA based on SRSS.

Annex II – The Commission’s 2015 Action Plan on CMU and its predecessors – selected actions focused on access to finance

Source: ECA.

Annex III – CMU action for the development of local capital markets

Annex IV – Overview of direct CSRs issued to all Member States, 2014-2019

Source: ECA based on CESAR database; European Parliament’s EGOV Briefing, CSRs: An overview, September 2019.

Annex V – Overview of direct and broader CSRs issued to less developed Member States, 2016-2019

NB. (1) The ranking is based on the depth of local capital markets by Asimakopoulos and Wright, A new sense of urgency: The future of Capital Markets Union, New Financial, November 2019; (2) As ‘direct CSRs’, we considered the Commission’s internal taxonomy, mainly ‘access to finance’ and ‘reduce the debt-bias’. In order to avoid a ‘CMU over-labelling’, we classified the recommendations addressing issues also targeting the banking sector as ‘broader CSRs’, for example insolvency regimes, supervision of the financial sector and sale of non-performing loans; (3) Due to the economic adjustment programmes until 2018, Greece received CSRs only in 2019.

Source: ECA based on the Commission’s CESAR database.

Annex VI – Overview of CMU legislative measures as of July 2020

Source: ECA based on the European Commission.

Acronyms and abbreviations

AIF: Alternative Investment Fund

AIFMD: Alternative Investment Fund Manager Directive

BAML: Bank of America Merrill Lynch

CCCTB: Common Consolidated Corporate Tax Base

CMU: Capital Markets Union

CSR: Country Specific Recommendation

EFAMA: European Fund and Asset Management Association

ESAP: European Single Access Point

ESMA: European Securities and Markets Authority

EuSEF: European social entrepreneurship fund

EuVECA: European venture capital fund

IPO: Initial public offering

SME: Small and medium-sized enterprise

SRSP: Structural Reform Support Programme

SRSS: Structural Reform Support Service (now DG REFORM)

STS securitisation: “Simple, Transparent, and Standardised” securitisation

UCITS: Undertaking for Collective Investment in Transferable Securities

Glossary

Alternative Investment Funds (AIFs): All investment funds that are not covered by the EU Directive on UCITS and instead fall under the Alternative Investment Fund Manager Directive (AIFMD). This includes hedge funds, venture capital, private equity funds and real estate funds.

CMU Working Group: Platform formed under the Vienna Initiative to support the exchange of information on financial trends in central, eastern and southeastern Europe and thus develop local capital markets, comprising representatives from the public and private sectors in the countries concerned and from international institutions, with the Commission as coordinator.

Common Consolidated Corporate Tax Base (CCCTB): A single set of rules for calculating companies' taxable profits in the EU.

Covered bond: Type of secured bond issued by a bank or other credit institution, that is usually backed by mortgages or public-sector loans.

Debt-equity bias: Economic distortion caused by the fact that interest payments on debt are tax-deductible in most corporate income tax systems, but dividend payments for equity financing are not.

Deep capital market: A market in which securities are traded at a high volume, with only a small difference between buying and selling prices.

European Semester: Annual cycle which provides a framework for coordinating the economic policies of EU Member States and monitoring progress.

European Single Access Point: A planned EU web portal for fast and easy access to listed companies’ statutory information.

European Social Entrepreneurship Fund (EuSEF) Regulation: A regulation providing the basis for a voluntary EU-wide passport for qualifying alternative investment schemes that focus on social enterprises.

European Venture Capital Fund (EuVECA) Regulation: A regulation providing the basis for a voluntary EU-wide passport for qualifying venture capital funds and fund management companies.

Fund of funds: A pooled investment fund that invests in other funds rather than investing directly in securities.

Initial public offering: The first sale of a company's shares to the public.

Market depth: Indicator of the volume of trading in a market.

Markets in Financial Instruments Directive (MiFID): The EU legal framework regulating financial markets and improving investor protection. MiFID II replaced the original Directive in 2018.

Multilateral trading facility: A self-regulating facility for trading financial instruments, which provides an alternative to traditional stock exchanges and, unlike these, can be operated not only by an authorised market operator, but also by an investment company.

Relief at source: A form of tax relief applied at the moment tax is deducted at source.

Securitisation: The practice of pooling various types of illiquid financial assets such as mortgages, loans and leases, and selling them to investors as liquid marketable securities such as bonds.

SME growth market: A type of multilateral trading facility for shares issued during the previous three years by companies with an average market capitalisation of less than €200 million.

Structural Reform Support Programme (SRSP): EU programme that provides tailor-made support for Member States’ institutional, administrative and growth-enhancing reforms, without the need for national co-financing.

Undertaking for Collective Investment in Transferable Securities (UCITS): An investment vehicle that pools investors’ capital and invests it collectively through a portfolio of financial instruments such as stocks, bonds and other securities. UCITSs, which are covered by an EU Directive, can be distributed publicly to retail investors across the EU based on a single authorisation from one Member State.

Unicorn company: A privately held start-up with a value of over $1 billion, so called due to the rarity of such ventures.

Venture capital fund: An investment fund that manages money from professional investors seeking to invest in SMEs with strong growth potential.

Vienna Initiative: Forum established in January 2009 that brought together all the main public and private stakeholders in the EU banking sector to help emerging European economies weather the global economic crisis.

Audit team

The ECA’s Special Reports set out the results of its audits of EU policies and programmes, or of management-related topics from specific budgetary areas. The ECA selects and designs these audit tasks to be of maximum impact by considering the risks to performance or compliance, the level of income or spending involved, forthcoming developments and political and public interest.

This performance audit was carried out by Audit Chamber IV Regulation of markets and competitive economy, headed by ECA Member Alex Brenninkmeijer. The audit was led by ECA Member Rimantas Šadžius, supported by Mindaugas Pakštys, Head of Private Office and Tomas Mackevičius, Private Office Attaché; Marion Colonerus, Principal Manager; Anna Ludwikowska, Head of Task; Athanasios Koustoulidis, Ezio Guglielmi, Nadiya Sultan and Karolina Beneš, Auditors. Victoria Gilson and Richard Moore provided linguistic support.

Endnotes

¹ ECA on European Central Bank Annual Report 2017, p. 36.

² Final report of the High Level Forum on the Capital Markets Union, A New Vision for Europe’s Capital Markets Union, 10 June 2020.

³ Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the Committee of the Regions, A Capital Markets Union for people and businesses-new action plan, COM(2020) 590 final of 24.9.2020.

⁴ Regulation (EU) 2017/825 and (EU) 2018/1671.

⁵ Data source: www.statista.com.

⁶ SEC(1998) 552 final, 31 March 1998.

⁷ COM(2011) 870 final.

⁸ ECA special report 17/2019, paragraph 20.

⁹ SWD(2015) 183 final.

¹⁰ IPO Watch Europe 2011 and IPO Watch Europe 2019.

¹¹ Political guidelines for the next European Commission 2019-2024.

¹² EUROFI Regulatory Update – April 2020, Relaunching securitisation in the EU, p. 21.

¹³ Council, Conclusions on the Deepening of the Capital Markets Union, 5 December 2019.

¹⁴ OECD Report to G20 Finance Ministers and Central Bank Governors – September 2015; Report of the Vienna Initiative Working Group on Capital Markets.

¹⁵ ECA Special Report No 17/2019 and ECA Special Report No 02/2020.

¹⁶ Financing a sustainable European Economy – Final report 2018.

¹⁷ SWD(2019) 99 final.

¹⁸ Czechia, Estonia, Hungary, Poland and Romania.

¹⁹ ECA special report 16/2020, paragraphs 49-50.

²⁰ ECA special report 16/2020 – Box 5.

²¹ ECA special report 16/2020, paragraphs 51, 63 and Recommendation 4.

²² Report of the Vienna Initiative Working Group on Capital Markets p. 67.

²³ SRSS, European Commission: Technical assistance in the area of Capital Markets Union, 1^st version, April 2017.

²⁴ See for example EFAMA Quarterly Statistical Release March 2019 No 76, ESMA Annual Statistical Report 2020 and ALFI, Global Fund Distribution 2019.

²⁵ COM(2018) 92 final.

²⁶ COM(2017) 147 final.

²⁷ The Giovannini Group (November 2001), Cross-Border Clearing and Settlement Arrangements in the European Union.

²⁸ COM(2015) 468 final.

²⁹ OECD/INFE (2020), International Survey of Adult Financial Literacy.

³⁰ Vienna Initiative (12 March 2018). Report by the Working Group on Capital Markets Union. http://vienna-initiative.com/resources/themes/vienna/wp-content/uploads/2018/03/VI-CMU-Working-Group-Final-Report-March-2018.pdf.

³¹ Minutes of the Financial Services Committee of 3 May 2018.

³² 32 https://eiah.eib.org/about/index.

³³ Directive (EU) 2019/1023 of the European Parliament and of the Council of 20 June 2019 on preventive restructuring frameworks, on discharge of debt and disqualifications, and on measures to increase the efficiency of procedures concerning restructuring, insolvency and discharge of debt, and amending Directive (EU) 2017/1132 (Directive on restructuring and insolvency) (OJ L 172, 26.6.2019).

³⁴ COM(2018) 96 final.

³⁵ COM(2018) 89 final.

³⁶ COM(2015) 468 final, p. 30.

³⁷ EU publication, Study on a new approach to business failure and insolvency, 2016.

³⁸ EPTF Report, 15 May 2017.

³⁹ COM(2019) 8 final “Towards a more efficient and democratic decision making in EU tax policy” – 15 January 2019.

⁴⁰ COM(2020) 312 final.

⁴¹ Tool 16 “How to set objectives” of the Better Regulation Tool Box.

⁴² CMU Green Paper and https://ec.europa.eu/commission/presscorner/detail/en/MEMO_15_5733.

⁴³ Ian Bell et al., Relaunching securitisation in the EU in the Eurofi, Regulatory Update, April 2020, pp. 20, 22-24.

⁴⁴ European Commission. Better Regulation Tool # 41 Monitoring Arrangements and Indicators. https://ec.europa.eu/info/sites/info/files/file_import/better-regulation-toolbox-41_en_0.pdf.

⁴⁵ The seventh area of intervention – “strengthening supervision” – was separated from the “facilitating cross-border investment” area in the 2017 Mid-Term Review.

⁴⁶ The four areas are 1) Financing firms on public equity and debt markets, 2) Financing innovation, start-ups and non-listed companies, 3) Using capital markets to strengthen banking capacity, 4) Fostering retail participation.

⁴⁷ Indicators were rejected if they crossed one of three "red lines": non-replicability, lack of geographical coverage and a lack of time series and cross-country variation.

⁴⁸ Article 12 (1) of Regulation (EU) 2019/1156.

⁴⁹ “To inspire and motivate public and private market players to further grow and integrate capital markets in their respective Member States and regions”.

⁵⁰ It makes only a general reference to the finding of the 2018 EFSIR that the CESEE countries account for 8 % of the EU’s GDP, but only 3 % of the EU’s capital market.

⁵¹ A 2018 audit of the Swedish NAO found that these accounts might have cost almost €4 billion (SEK 42 billion) in forgone tax revenue.

⁵² Survey on the Access to Finance of Enterprises in the euro area, https://www.ecb.europa.eu/stats/ecb_surveys/safe/html/index.en.html

⁵³ COM(2020) 281 final and COM(2020) 280 final.

⁵⁴ COM(2020) 282 final.

⁵⁵ COM(2020) 590.

⁵⁶ Source InvestEurope, 2020.

⁵⁷ COM(2020) 281 final.

⁵⁸ Regulation (EU) 2017/1129.

⁵⁹ Regulation (EU) 2017/1129.

⁶⁰ COM(2019) 136 final and SWD(2019) 99 final.

⁶¹ Regulation (EU) 2017/825.

⁶² Regulations (EU) 2017/1991, 2017/2402, 2019/1238, 2019/1156, Directives (EU) 2019/1160 and 2019/2162.

⁶³ COM(2018) 113.

⁶⁴ Directive (EU) 2019/1023.

⁶⁵ COM(2020) 590.

⁶⁶ https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32009H0784&from=EN

⁶⁷ COM(2020) 282 final.

⁶⁸ Proposal for a Regulation of the European Parliament and of the Council establishing a Technical Support Instrument (COM(2020) 409 final) of 28.05.2020.

⁶⁹ COM(2020) 590.

Timeline

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