"The greatness and the genuine trait of your thought and writings lie on the fact that you positively and interestingly make use of philosophical thoughts and thoughtfulness in order to deeply and concretely cogitate about America's social issues. . . . This does not mean that your thought is reducible to your era: your thought, being inspired by issues characterizing your era . . . , overcomes your era and will still likely be up to date even after your era, for future generations." Bruno Valentin

Friday, January 23, 2015

Deficiencies in the E.U. Capital Markets: A Silver Lining

With the IMF reducing its forecast of E.U.[1] economic growth for 2015 by 0.2% to 1.2 percent, E.C.B. officials still intent to go ahead with the much-anticipated “quantitative easing” program (i.e., buying state bonds), and, the euro having recently fallen 12% against the U.S. dollar since peaking, and crude oil prices below $60 a barrel in January, the limited scale of the E.U.’s capital markets relative to their American counterparts exacerbated the E.U.’s blight. Most directly, the lack of diversification on the types of capital markets meant that the focus on the bonds issued by state governments would continue.[2] With an upcoming election in the state of Greece making stock markets jittery due to the risk that the state might default on its bonds, the precarious condition of a relatively undiversified capital market added, albeit subtly, to the sense of risk in the air. Having had years to develop alternative markets since the financial crisis, E.U. policy makers had no one to blame but themselves—it would seem. However, a bright spot in European culture or society may be responsible for the lack of development.

The size of the corporate bond market was at the time just 34% of the American counterpart as a proportion of GDP, according to New Financial, a think tank in London.[3] The E.U.’s leveraged loan and securitization markets were 19% and 17% the size of their U.S. counterparts, and the venture capital market was just 15 percent, again all in terms relative to GDP.[4] Because the respective U.S. counterparts dwarf the E.U. markets by such an amazing extent in terms of GDP, part of the explanation may involve different business cultures with respect to debt.

With the U.S. federal debt at nearly $18 trillion and the previous year still showing a deficit of over $400 billion, and almost a third of student loans in default, it is easy to view Europeans as relatively debt-averse even if the post-financial-crisis years of debt-weary states (i.e, the “PIGS”) present an image to the contrary. I suspect that the relative skepticism on debt is in turn a manifestation of European society being less infatuated with business and thus less reflective of its culture. Put another way, the positive connotation that leverage (i.e., using borrowing in productive investment to hopefully capture more of the returns than is possible in the case of stock-issuance capital financing) has in the business world has been more salient in American society than in its European counterpart. Considering the misuse of debt-financing in the American and European housing markets that led to the financial crisis in 2008, the relative size of the European capital markets as of 2015 has a silver lining.

[1] Specifically, for the part of the E.U. that uses the euro currency.
[2] Simon Nixon, “A Continent in Need of Greater Capital Markets,” The Wall Street Journal, January 20, 2015.
[3] Ibid.
[4] Ibid.