European Financial Integration through Securitization

The lack of cross-border risk sharing in the banking sector, which constitutes the dominant source of funding for European firms and households, is one of the biggest barriers to better integrated financial markets in Europe. In this policy brief, we emphasize the potential of the securitization market for bank-based financial integration. In order to effectively increase cross-border risk sharing through securitization in the EU, we suggest a two-pronged strategy: First, it entails further improving the existing regulatory framework in order to reduce barriers to a thriving securitization market. And second, explicit incentives for risk sharing and securitization in Europe should enter EU regulation and EU programs. Our suggestions are practical in that they build on adaptations of existing regulation and programs instead of devising new ones. Specifically, we make the case for linking the countercyclical capital buffer to a measure of geographic diversification as a way to strengthen incentives for risk sharing. Furthermore, we argue that pertinent changes to the terms and conditions of subsidies to securitized SME loans within the existing SME Initiative will help create cross-border investment opportunities in a strategically import sector of the European economy.