Euro50 Group, CEPS, Banco de Portugal
Conference: The European Banking Union and its future, Lisbon 14-15 September 2014
Ousmène Jacques Mandeng, Global Institutional Relations Group, Prudential Investment Management
The establishment of the European Banking Union is seen as essential to foster a reintegration of the European banking system. This is viewed also to support restoring the effectiveness of the ECB’s monetary policy amid the adverse relationship between financial fragmentation and the workings of the monetary transmission channels. However, the financial disintermediation of the European banking system may diminish considerably the importance of the banking sector relative to other financial sector participants. By simple conjecture, the increasing heterogeneity of financial sector participants in euro area financial markets suggests that the actual impact for a single monetary policy of a successful Banking Union may be more limited than generally assumed.
Portfolio securities holdings show that euro area financial integration has remained broadly intact through the financial and economic crisis. This is in sharp contrast to intra-euro area loans. The shift in the relative importance of the assets underlying euro area financial integration has caused an important transformation of intra-euro area financial integration by financial entities and assets. Asset managers rather than banks have become the principal financial market participants in euro area financial integration. While the increasing importance of the asset management industry has recently been emphasised, little attention has been paid to its role for euro area financial integration.1
The present note offers a simple illustration of the shift in the importance of asset managers to help motivate a debate about its implication for the Banking Union and a single monetary policy. The note uses readily available quantity-based indicators and focuses on intra-euro area financial claims including loans and securities—securities other than shares and equities and other share—of banks and asset managers—investment funds, insurance corporations and pension funds—considered here to be a particularly relevant guide to gauge actual financial integration.2
The relationship between financial integration and the effectiveness of a single monetary policy are well known.3 The ECB’s assessment of financial integration rests on a broad range of price-based and quantity-based indicators.4 The capital markets quantity-based variables include the share of intra-euro area holdings of debt securities and the share of intra-euro area holdings of equities. The recent ECB financial integration report highlights mixed evidence on integration in debt securities and equities markets:4 “Overall the quantity-based indicator points to a continued fragmentation of the euro area sovereign bond market; [...] [t]he share of cross-border holdings of EU corporate debt out of total holdings of corporate debt securities declined, but at a slower pace, as did the share of cross-border EU sovereign bonds; [...] [t]he decline observed since 2008 in euro area investment funds’ holdings of equity issued in other euro area countries has not prevented a continued increase in the overall intra-euro area relative cross-border holdings of equity issued by euro area residents.”
Asset managers in the euro area have continued to expand through the economic and financial crisis. Total assets of the asset management industry in the euro area increased from €10.5 trillion in 2008 to €16.5 trillion in 2014 compared with total assets of the monetary and financial institutions of €31.8 trillion and €30.6 trillion, respectively.6
Intra-euro area financial claims have been broadly flat in nominal terms between 2008 and 2014 (Table). However, their composition has changed significantly. Intra-euro area loans and securities held by asset managers rose from €2.5 trillion in 2008 to €3.7 trillion in 2014.7 Banks’ intra-euro area claims declined over the same period from €4.6 trillion to €3.4 trillion. Intra-euro area claims on securities have increased their importance relative to loans from €4.5 trillion in 2008 to €5.1 trillion in 2014. While debt securities continue to dominate intra-euro area financial integration, the securities expansion can be attributed largely to the rise in equities. Banks reduced exposure to intra-euro area loans and securities proportionately.
The increasing heterogeneity of euro area financial integration may naturally have several implications for a single monetary policy. It raises the question to what extent the increasing importance of capital markets will alter the relative effectiveness of the monetary transmission channels. The relationship between unconventional monetary policy and asset prices further suggests that the intra-euro area securities allocations may offer an important transmission channel in the event the ECB adopts outright large scale securities purchases.8 Meanwhile, the possible continued contraction of the banking sector is likely to erode further the capacity of banks to serve as channel for the transmission of a single monetary policy.
Asset managers have become the principal drivers for euro area financial integration. The higher propensity of asset managers to make intra-euro area allocations, the stability of allocations, the growth of the asset management industry and the increasing weight of equities relative to debt securities, may offer new opportunities or shift the relative weight of different measures for a single monetary policy. While the banking union may restore greater financial integration of the banking sector, capital markets may already do more to support the effectiveness of a single monetary policy. Rather than the banks, the asset management industry has become the most potent ally for the ECB.
1 See e.g. Andrew Haldane, The age of asset management?, speech at the London Business School, 4 April 2014. Renewed concerns about the adverse impact of the asset management sector on financial stability are being noted.
2 Intra-euro area allocations refer to external claims of euro area entities on other euro area entities.
3 On the effect of financial fragmentation for a single monetary policy, see e.g. Peter Praet, European financial integration in times of crisis, speech at the Annual General Meeting and Conference 2012 of the International Capital Market Association (ICMA), Milan, 25 May 2012: “The effects of weaker financial integration and, in extreme cases, the re-emergence of separate national markets have considerably impaired the transmission of monetary policy. In fact, monetary policy has ceased to convey balanced and homogeneous signals to the euro area economy as a whole.”
4 The ECB recently introduced the synthetic indicator of financial integration (SYNFINT) that reflects developments in the money, bonds, equities and banking markets.
5 ECB, Financial integration in Europe, April 2014, Frankfurt.
6 ECB. Through March 2014.
7All data ECB. Loans and securities (shares other than equity and quoted shares (shares and other equity)) to other euro area entities excluding the reference area The data may somewhat be inflated due to Luxembourg and to a lesser extent Ireland as off-shore financial centres.
8 On unconventional monetary policy and asset prices, see e.g. John Rogers et al, Evaluating asset-market effects of unconventional monetary policy: A cross-country comparison, Board of Governors of the Federal Reserve System, International Finance Discussion Papers, March 2014.