ECB-Panetta: Capital Markets Union might require EU fiscal capacity

The outgoing member of the executive board of the European Central Bank (ECB) and future head of the Italian central bank, Fabio Panetta, argued that a genuine Capital Markets Union (CMU) would require the availability of a permanent European safe asset, which would, in turn, need the EU to have a standing fiscal capacity with a borrowing function.

The CMU initiative was launched by the EU Commission in 2015 to integrate the still very fragmented national capital markets in Europe to increase the amount of capital available for European companies to fund their growth.

The lack of a CMU is often seen as an obstacle to Europe’s economic development, for example, because promising startups have difficulty finding enough growth capital in the small national capital pools and thus prefer heading to the US, where capital is much more readily available.

However, despite repeated regulatory initiatives to tear down the barriers that separate the European markets, the CMU is far from attained.

Genuine CMU requires a European safe asset…

In a blog post published on Wednesday (30 August), the experienced central banker Fabio Panetta argued that the results of previous initiatives were “not yet satisfactory” and that Europe needed to “think bigger” to build its capital markets union.

Arguing that it was not sufficient to simply tackle one market barrier after another, he wrote: “There are two critical blind spots in the development of a genuine CMU.”

In Panetta’s opinion, these two blind spots are the lack of a complete banking union and the lack of a permanent European safe asset.

“Historically, mature capital markets have been built around a public safe asset,” Panetta wrote, pointing to US government bonds as an example.

A “risk-free benchmark” would be helpful because it would allow for better pricing of risky financial products, provide a “common form of collateral” needed in many financial transactions, and help attract foreign investors.

…European safe asset requires EU fiscal capacity

However, a European safe asset cannot be created out of thin air.

“Establishing such a permanent European safe asset would be a game changer, but it hinges on Europe having a standing fiscal capacity with a borrowing function. Without that, building a deep and competitive CMU will prove much more difficult,” Panetta writes.

A standing fiscal capacity would mean the EU can raise revenues and borrow money from the financial markets.

There are different ways to establish a standing fiscal capacity. In 2022, a group of Italian economists argued for creating a European Debt Agency.

However, this is a highly contentious topic in the EU, especially for countries like Germany that currently benefit from lower borrowing costs than other EU countries.

To react to the COVID pandemic in 2020, the EU countries agreed for the first time to take up common European debt, but only after a tough political battle among member state governments and only under the condition that this would not happen again.

A new argument

The EU is thus still a long way from a “standing” or permanent fiscal capacity.

The CMU, on the other hand, was put on the agenda again this year as the EU is trying to find a way to reestablish its competitiveness in the face of high energy prices and geopolitical uncertainty over its trade relations. The CMU is much less controversial among EU member states than the highly politicised fiscal debates.

Therefore, a standing fiscal capacity for the EU might reenter the European debate, not in the name of fiscal stability or fairness as it used to, but in the name of a fully functioning CMU.

Fabio Panetta, meanwhile, won’t see this debate unfold from his post at the ECB’s executive board as he will resign as of 1 November. While he takes over the post of governor of the Bank of Italy, he is likely to be succeeded at the ECB by Piero Cipollone, currently deputy governor of the Italian central bank and the only candidate for Panetta’s succession.

Eurozone fragmentation or fiscal union? There is a middle way.

With fears of a looming recession, the risk of eurozone fragmentation is back on people’s minds. However, a group of economists think they have found a solution to prevent the fragmentation without going all the way to the politically improbable fiscal union.

[Edited by Alice Taylor]

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