Mr. Massimo M Beber Fellow in Economics Sidney Sussex College Cambridge CB2 3HU European Economics Lecture 6 THE FINANCIAL SYSTEM (Provisional Version: last updated 16 th November 2006) M.Phil. in Contemporary European Studies 2006/7 ©Massimo M Beber 2006

Lecture Outline What does the Financial System Do? Real and Financial Integration The Single Market in Capital and Financial Services After the Financial Services Action Plan (Gerschenkron vs Bagehot)

The empirical agenda How does finance affect growth? What features of the financial structure have the most significant impact on growth? Specifically, what is the relationship between finance, and structural change and economic progress?

Difference Stationary ln(Y) THE FINANCE-GROWTH NEXUS - STYLIZED SCENARIOS Time Trend Stationary Full Employment Technological frontier Vicious Circle Beta- and Sigma- Convergence

TRADE-OFFS IN THE INTERNATIONAL FINANCIAL ARCHITECTURE Monetary and Macroeconomic Sovereignty Stable Real Exchange Rate Free Mobility of Capital A,D B C’’, C C’C’ A:the Gold Standard as an “anchor” to the price level B: the Bretton Woods compromise C: the German model, Mrs Thatcher’s monetarist experiment C’, C’’: the Keynesians’ Last Hurrah between autarchy and stagflation D:back to the anchor: EMU, currency boards, dollarisation...

Source: Rajan and Zingales (2003), Table 1 FIN. DEVELOPMENT INDICATORS: BEFORE… (1980)

Source: Rajan and Zingales (2003), Table 2 FIN. DEVELOPMENT INDICATORS: … AND AFTER (2000)

Source: Danthine, Giavazzi and von Thadden (2000)

EUROZONE FINANCIAL GAP (% GDP) (capital expenditure – blue and internal funds – red) Source: Bank of Belgium Financial Stability Review 2003, Chart 1.

USA FINANCIAL GAP (% GDP) (capital expenditure – blue and internal funds – red)

EUROZONE EQUITY FUNDING (% GDP) (debt financing – blue and equity financing – red)

USA EQUITY FUNDING (% GDP) (debt financing – blue and equity financing – red)

THE EU’S SHARE OF THE GLOBAL DERIVATIVES MARKETS Source: Rajan and Zingales (2003), Figure 2

Source: European Central Bank Annual Report (1999), pp THE NATIONAL LEGACY IN THE EU LOLR

Source: European Central Bank Press Release (10th March 2003), para 3-4. A EU LLR: CON(DE?)STRUCTIVE AMBIGUITY

TOWARDS INTEGRATED FINANCIAL SUPERVISION: THE “LAMFALUSSY FRAMEWORK” Source: Committee of European Banking Supervisors Annual Report 2004.

EUROPEAN FINANCIAL REGULATION: BETWEEN EMH AND FIH Source: Committee of European Banking Supervisors Annual Report 2004.

THE EMBRYONIC STRUCTURE OF EU FINANCIAL REGULATION Source: Committee of European Banking Supervisors Annual Report 2004.

Conclusions The financial structure is crucial to household welfare, business investment, corporate control, and efficient public finances Governance of the financial system implies different policies under EMH and FIH; EU policy in this area reflects an attempt to balance competition and prudential concerns Centralized governance (regulation, LLR) is likely to increase over time