Institutionalization and EMU: Implications for European Financial Markets

Whereas institutional investment accounts for a small proportion of total financing in many EU countries, growth is expected to accelerate in the future, in part owing to pension reform. Such growth may result in important changes in the demand for financial assets and qualitative developments in capital markets, which may impinge on banking's comparative advantages, corporate finance and corporate governance. Simultaneously, the onset of EMU can be expected to give rise to an increased role for securities markets and a lesser role for traditional banking, as well as giving a further boost to institutionalization. The forces unleashed by institutionalization and EMU may complement one another in shifting Europe in the direction of a securitized financial system, characterized by market‐based corporate governance practices and away from ‘relationship banking’. The transformation would raise a number of policy issues, such as the risk of a ‘vacuum’ in corporate governance during the transition to a market‐based system, the danger of increased risk‐taking by banks under competitive pressure and an evolution in the response of the European economy to monetary policy.