## sdnea2026002 - Executive Summary

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### Executive Summary: key findings and quantified impacts
- Financial markets in the European Union (EU) remain fragmented and shallow, constraining firm growth and the availability of long-term risk capital.
- Model simulations suggest that a moderate reform effort targeting identified financial policy barriers could raise EU GDP by about 3 percent in the long term.
- Two-thirds of the GDP gains come from reducing barriers to cross-border banking; the remainder arises from strengthening the supply of VC and reducing cross-border barriers to VC.
- Financial reforms would magnify by an additional percentage point of GDP the gains from a broader set of domestic structural reforms that improve business dynamism and innovation.
- The VC layer’s direct effect on GDP is small because the VC sector is small to begin with.
- Smaller EU economies and younger firms benefit disproportionately from the proposed financial reforms.
- Further integration could also strengthen resilience and improve risk sharing across countries, providing additional welfare gains beyond the quantified GDP effects.

### Concrete empirical magnitudes (selected)
- Bank credit:
  - Cross-border loans by immediate lenders constitute around 1 percent of all bank-firm relationships in the EU, and around 5 percent of total loan volumes to firms.
  - Cross-border loans by ultimate banking parents account for 14 percent of total loan volumes.
  - Forming a new cross-border credit relationship is estimated to be subject to a 99 percent implicit tax relative to a new domestic relationship.
  - Once relationships are formed, the estimated frictions are negligible: an implicit tax of 0.2 percent when a foreign bank lends to a given firm, and an average difference of only 25 basis points in interest rates.
  - NFC liabilities: bank credit accounts for 26 percent of nonfinancial corporations’ liabilities in the EU, compared with only 10 percent in the United States in 2024.
- Venture capital (VC):
  - The EU’s VC market is approximately one-fourth the size of the US market.
  - The fraction of young firms receiving VC funding in the EU is about one-fourth the ratio for US young firms.
  - When EU firms secure VC, they receive half what US firms receive on average.
  - Investor home-bias: 60 percent of investors are from the start-up’s home country in the EU, compared with about 30 percent from the home state in the United States.
  - Fewer than 20 percent of investors in EU start-ups are from other EU countries, versus 50 percent of investors from other states in the United States.

### Stylized facts on constraints and credit access
- Younger firms adjust leverage far less than older firms following a corporate tax increase, implying tighter credit constraints for younger firms.
- Innovative firms are more credit-constrained than non-innovative firms.
- Cross-border banking is especially strong through branches and subsidiaries in eastern European countries, but home bias persists across all EU countries (country examples include a range from 2 percent in Italy to 49 percent in Ireland for cross-border NFC loan shares).
- Total cross-border bank flows within the EU are lower than interstate banking flows in the United States.

---

### Types of barriers, channels, and complementarities

### Types of barriers identified
- Within the financial system:
  - Cross-country differences in banking regulations, safety nets (including deposit insurance schemes), and corporate bankruptcy (insolvency) regimes.
  - Barriers constraining the supply of risk capital by pensions and insurers, and legal fragmentation limiting cross-border allocation of these funds.
- Outside the financial system:
  - Domestic real-sector structural barriers that limit the availability of investable innovative projects are the most serious impediment to a more vibrant VC landscape.
- Policy vs non-policy:
  - Policy-linked barriers: prudential and supervisory rules, tax systems, corporate insolvency regimes, deposit-guarantee schemes, securities and consumer protection regulation, pension fund and insurer regulations, tax treatments.
  - Nonpolicy barriers: language, geography, informational frictions, cultural and behavioral biases.

### Macroeconomic channels and complementarities
- Barriers depress output by misallocating savings across firms and countries, raising dispersion in investment returns, and weakening productivity.
- Fragmentation shrinks the pool of financial intermediaries, reduces favorable financing matches, and increases intermediation margins through weaker competition.
- Financial reforms amplify the gains from real-sector reforms: the Note finds an additional 1 percentage point of GDP gain when financial reforms complement domestic structural reforms that improve business dynamism and innovation.
- Completing the euro area financial architecture and improving integration can enhance resilience and risk sharing, but greater integration requires sound prudential policies to mitigate potential excessive risk-taking and cross-country spillovers.

---

### Macroeconomic quantification and calibrated counterfactuals

### Empirical indices and model setup
- New policy-distance index averages eight categories: deposit insurance, macroprudential, microprudential, resolution, supervision, governance, entry, and corporate bankruptcy.
- Policy-distance median: about 0.25; range from 0.15 to 0.39.
- Model calibrated to 20 euro-area countries with heterogeneous households, mature firms, start-ups, banks, and NBFIs; counterfactuals matched to gravity-based empirical estimates.

### Counterfactuals and aggregate GDP effects (long term)
- Simulated 30 percent reduction in bilateral policy distances → share of cross-border credit increases from 5 percent to 24 percent.
- Progress toward harmonizing corporate insolvency, deposit insurance, bank resolution, and macroprudential practices (reducing cross-border banking barriers) could raise EU GDP by about 2 percent.
- Policies reducing barriers to VC supply and cross-border VC investment (legal and tax reforms; expanding long-term risk capital) could raise EU GDP by about 1 percent.
- Pro-innovation/domestic structural reforms that increase start-ups raise EU GDP by about 7 percent when implemented alone.
- Implementing financial reforms together with pro-innovation reforms amplifies gains by an additional 1 percentage point (combined pro-innovation plus financial integration yields roughly 8 percent relative to baseline).
- Figure note: Total gain from financial reforms = 4percent (as illustrated in the model’s aggregation of effects).

### Distributional and market-structure effects
- Smaller countries benefit more than larger countries (EA4 = France, Germany, Italy, and Spain; “Other” = all other euro-area countries).
- Start-ups benefit most: under the comprehensive reform scenario, start-up output more than doubles while mature-firm output declines due to capital reallocation toward higher-return start-ups.
- Cross-border share of bank and NBFI lending rises by approximately 37 percentage points from a base of 15 percent.
- Share of NBFI financing in total firm funding rises by about 19 percentage points from a base of 4 percent.

---

### Venture capital empirical findings and methods (Annex highlights)

### Key empirical findings — VC supply and cross-border flows
- Gravity model on VC deals (PitchBook, 2015–24 for firms born after 2010) isolates bilateral frictions and supply-side push factors.
- Legal harmonization proxy could increase intra-EU cross-border flows by 6 percent.
- Withholding tax reforms could increase intra-EU cross-border flows by 25 percent.
- Increasing long-term risk capital (pension contributions and insurance assets) to close half the gap with EU and US best-practice settings is associated with an increase in EU VC supply by around 96 percent.
- Even with these supply-side changes, EU VC investment would remain below US levels: EU’s VC investment is roughly one-fourth of the US levels as a share of GDP.
- Reducing member states' structural policy gaps across modeled pull factors → average EU VC demand increase by around 173 percent.
- VC-backed firms in the EU exit abroad (mostly the United States) more than four times as often as VC-backed US firms; market access is key for scaling.

### Data and modelling notes (preserved specifics)
- Data source: PitchBook deal-level records covering deals from 2015 to 2024 for VC-backed firms founded after 2010, excluding firms based in China, Japan, Korea, and known tax haven jurisdictions.
- Gravity estimation: Poisson Pseudo-Maximum Likelihood with investor-time and origin-time fixed effects; specification V_ijt = exp(χ_it + ξ_jt + β_bilat X_ijt) ε_ijt.
- Pull-side simulated reforms: close half the gap relative to top two performers on public R&D, share of tertiary-educated workers, business environment distortions; top PIT adjustment rules specified (reduce PIT by 5 percentage points if >45 percent; set PIT at 40 percent if between 40 and 45 percent; no change if <40 percent).
- Legal harmonization exercise: same-legal-origin dummy turned from 0 to 1 as a lower-bound proxy for the 28th corporate regime.
- Bilateral withholding tax exercise: assume bilateral withholding taxes go to zero; results are an upper bound on potential effects.

---

### Policy recommendations (prioritized actions)

- Advance the banking union while safeguarding financial stability:
  - Introduce a European deposit insurance scheme.
  - Harmonize macroprudential frameworks to reduce home bias in bank lending.
  - Harmonize macroprudential capital requirement methodologies and macroprudential toolkits to reduce ring-fencing and regulatory uncertainty.
  - Complete the financial safety net: harmonize deposit insurance, finalize backstops (for example, ESM backstop to SRF), and improve liquidity access in resolution.
- Harmonize corporate insolvency law:
  - Consider introducing a 28th regime for corporate legal frameworks to increase demand for cross-border funding by firms.
  - Consider voluntary EU-wide 28th regime elements to harmonize bankruptcy frameworks.
- Expand the supply of long-term risk capital:
  - Implement pension and insurance reforms (auto-enrollment, Pan-European Pension Product revisions, Solvency II review, prudent person principle revisions) to boost long-term risk capital availability.
  - Raise participation in funded pension schemes and insurer assets to close half the gap with best-performing peers (simulated push-side effect).
- Reduce barriers to cross-border equity investment:
  - Enhance pension portability.
  - Harmonize procedures for tax withholding and simplify withholding tax procedures.
  - Ensure market participants can operate in all trading venues in the EU; enable market participants to operate across trading venues and ease access to central securities depositories.
  - Improve retail participation via lower-cost, clearer retail investment products and harmonized investor protection safeguards.
- Support VC and equity financing through targeted public interventions:
  - Use pan‑European investment vehicles, EIB/EIF co-investment platforms to catalyze scale and cross-border diversification, designed to crowd in private capital and avoid distortions.
- Pursue these financial reforms alongside national and EU-level real-sector reforms:
  - Lower product and services barriers, facilitate labor mobility, reduce red tape, strengthen insolvency and restructuring frameworks, enhance skills and tertiary education, and bolster R&D and innovation policies to ensure a strong pipeline of investable projects.

*International Monetary Fund — Staff Discussion Note: Deeper and More Integrated Financial Markets to Foster Growth and Resilience in Europe (Executive Summary).*

### Executive Summary ......................................................................................................

### sdnea2026002 - Executive Summary

### Executive Summary: key findings and quantified impacts
- Financial markets in the European Union (EU) remain fragmented and shallow, constraining firm growth and the availability of long-term risk capital.
- Model simulations suggest that a moderate reform effort targeting identified financial policy barriers could raise EU GDP by about 3 percent in the long term.
- Two-thirds of the GDP gains come from reducing barriers to cross-border banking; the remainder arises from strengthening the supply of VC and reducing cross-border barriers to VC.
- Financial reforms would magnify by an additional percentage point of GDP the gains from a broader set of domestic structural reforms that improve business dynamism and innovation.
- The VC layer’s direct effect on GDP is small because the VC sector is small to begin with.
- Smaller EU economies and younger firms benefit disproportionately from the proposed financial reforms.
- Further integration could also strengthen resilience and improve risk sharing across countries, providing additional welfare gains beyond the quantified GDP effects.

### Concrete empirical magnitudes (selected)
- Bank credit:
  - Cross-border loans by immediate lenders constitute around 1 percent of all bank-firm relationships in the EU, and around 5 percent of total loan volumes to firms.
  - Cross-border loans by ultimate banking parents account for 14 percent of total loan volumes.
  - Forming a new cross-border credit relationship is estimated to be subject to a 99 percent implicit tax relative to a new domestic relationship.
  - Once relationships are formed, the estimated frictions are negligible: an implicit tax of 0.2 percent when a foreign bank lends to a given firm, and an average difference of only 25 basis points in interest rates.
  - NFC liabilities: bank credit accounts for 26 percent of nonfinancial corporations’ liabilities in the EU, compared with only 10 percent in the United States in 2024.
- Venture capital (VC):
  - The EU’s VC market is approximately one-fourth the size of the US market.
  - The fraction of young firms receiving VC funding in the EU is about one-fourth the ratio for US young firms.
  - When EU firms secure VC, they receive half what US firms receive on average.
  - Investor home-bias: 60 percent of investors are from the start-up’s home country in the EU, compared with about 30 percent from the home state in the United States.
  - Fewer than 20 percent of investors in EU start-ups are from other EU countries, versus 50 percent of investors from other states in the United States.

### Stylized facts on constraints and credit access
- Younger firms adjust leverage far less than older firms following a corporate tax increase, implying tighter credit constraints for younger firms.
- Innovative firms are more credit-constrained than non-innovative firms.
- Cross-border banking is especially strong through branches and subsidiaries in eastern European countries, but home bias persists across all EU countries (country examples include a range from 2 percent in Italy to 49 percent in Ireland for cross-border NFC loan shares).
- Total cross-border bank flows within the EU are lower than interstate banking flows in the United States.

### Types of barriers identified
- Within the financial system:
  - Cross-country differences in banking regulations, safety nets (including deposit insurance schemes), and corporate bankruptcy (insolvency) regimes.
  - Barriers constraining the supply of risk capital by pensions and insurers, and legal fragmentation limiting cross-border allocation of these funds.
- Outside the financial system:
  - Domestic real-sector structural barriers that limit the availability of investable innovative projects are the most serious impediment to a more vibrant VC landscape.
- Some barriers reflect nonactionable informational frictions, but many are policy-induced and amenable to reform.

### Macroeconomic channels and complementarities
- Barriers depress output by misallocating savings across firms and countries, raising the dispersion in investment returns, and weakening productivity.
- Fragmentation shrinks the pool of financial intermediaries, reduces favorable financing matches, and increases intermediation margins through weaker competition.
- Financial reforms amplify the gains from real-sector reforms: the Note finds an additional 1 percentage point of GDP gain when financial reforms complement domestic structural reforms that improve business dynamism and innovation.
- Completing the euro area financial architecture and improving integration can enhance resilience and risk sharing, but greater integration requires sound prudential policies to mitigate potential excessive risk-taking and cross-country spillovers.

### Policy recommendations (prioritized actions)
- Advance the banking union while safeguarding financial stability:
  - Introduce a European deposit insurance scheme.
  - Harmonize macroprudential frameworks to reduce home bias in bank lending.
- Harmonize corporate insolvency law:
  - Consider introducing a 28th regime for corporate legal frameworks to increase demand for cross-border funding by firms.
- Expand the supply of long-term risk capital:
  - Implement pension and insurance reforms to boost long-term risk capital availability.
- Reduce barriers to cross-border equity investment:
  - Enhance pension portability.
  - Harmonize procedures for tax withholding.
  - Ensure that market participants can operate in all trading venues in the EU.
- Pursue these financial reforms alongside national and EU-level real-sector reforms to ensure a strong pipeline of innovative firms and to mobilize abundant savings for a stronger, more resilient economic union.

*International Monetary Fund — Staff Discussion Note: Deeper and More Integrated Financial Markets to Foster Growth and Resilience in Europe (Executive Summary).*

### 1. Split by Age

### 1. Split by Age

### Panel data and definitions
- Percent change in debt levels shown for:
  - Age split: "Young (<7y)", "Old (7y+)", "Average"
  - Innovation split: "Innovative", "Not innovative", "Average"
- Axis tick values shown: 0.0, 0.5, 1.0, 1.5
- Definitions and assumptions:
  - “Young” = firms younger than 7 years.
  - “Innovative” = firms in a country-industry pair classified in the top quartile of innovativeness by the OECD Oslo Manual.
  - Estimates are computed under the assumption that total assets remain unchanged after the tax increase, consistent with Farre-Mensa and Ljungqvist (2016).
  - OECD = Organisation for Economic Co-operation and Development.

### Key empirical observations (from the panels)
- Percent-change categories presented for:
  - Young (<7y)
  - Old (7y+)
  - Innovative
  - Not innovative
  - Average
- Visual scale for percent change anchored at: 0.0, 0.5, 1.0, 1.5

### Conceptual framework: Types of barriers (overview)
- Three main types of barriers affecting free allocation of capital:
  - Barriers that affect the match between investors and firms (differences between origin and destination countries; language, cultural distance; regulatory differences).
  - Supply-side barriers (“push factors”) preventing savers and intermediaries directing savings to productive uses (regulations on investment to risk capital; lack of information on investment opportunities; investment mandates).
  - Demand-side barriers (“pull factors”) affecting firms’ willingness and ability to raise external finance (collateral requirements; domestic impediments to innovative projects).
- Younger firms hold less collateral, resulting in higher financing costs.

### Policy vs non-policy barriers
- Policy-linked barriers: prudential and supervisory rules, tax systems, corporate insolvency regimes, deposit-guarantee schemes, securities and consumer protection regulation, pension fund and insurer regulations, tax treatments.
- Nonpolicy barriers: language, geography, natural informational frictions, differences in business culture, behavioral biases (familiarity, regret risk, ambiguity aversion), limited information-processing ability and rational inattention.
- Nonpolicy barriers are slow-moving and challenging to tackle with policy reforms but remain important impediments to growth.

### Barriers across and within countries; segments of intermediation
- Cross-country and within-country segmentation:
  - Regional segmentation of credit markets, local banking relationships, tax incentives favoring housing and sovereign bonds over corporate funding.
  - Barriers specific to nonbank financial intermediaries: pension fund regulations, insurance companies, VC funds limiting efficient supply of risk capital.

### Focus of the Note
- The Note focuses on and quantifies the effect of three sets of barriers (dashed bubbles in Table 1), highlighting two described sets:
  1. Cross-country differences in banking regulations and related frameworks:
     - Progress in harmonization of banking regulation, supervision, and resolution noted, with remaining scope for further harmonization in areas such as licensing, qualifying holdings, governance, fit and proper assessments of bank managers, and related parties transactions.
     - Additional complexity from differences in corporate insolvency regimes, tax treatments, deposit-guarantee schemes, and securities and consumer protection regulation.
  2. Barriers affecting VC activity:
     - Cross-border barriers: dividend withholding tax procedures and differences in legal regimes.
     - Within-country supply barriers: regulations on pension funds and insurers that tilt investment away from long-term risk capital.

### Table 1 — Barriers to the free allocation of capital (selected entries preserved)
- Barriers between investors and firms:
  - Differences in corporate bankruptcy regimes, prudential policies, bank supervision and resolution, and deposit insurance schemes
  - Restrictions to bank lending across regions
  - Differences in dividend withholding taxes procedures, legal systems
  - Geographic distance, cultural and language differences, and local banking relationships
- Supply of funds:
  - Regulations on pension funds and insurers tilting investment away from risky capital and start-ups
  - Political economy impediments to bank entry and cross-border branching, ring-fencing
  - Lack of information on investment opportunities, preference for investing in real estate or sovereign bonds as savings vehicles
- Demand of funds:
  - Impediments to innovative business environment (for example, lack of human capital and public R&D), top personal marginal rate
  - Corporate tax rates, barriers that reduce the size of product markets
  - Preference for domestic lenders, lack of collateral for young firms

*Source: Brandao-Marques and others (2026).*

### 3. Third, it investigates the interaction of the aforementioned barriers with broader real-sector

### sdnea2026002 - 3. Third, it investigates the interaction of the aforementioned barriers with broader real-sector

### Summary and scope
- Investigates how barriers to financial integration and to the development of nonbank financial institutions (NBFI) interact with real-sector barriers that limit the availability of investable projects for start-ups (tax systems, business environment regulations, lack of investment in R&D and tertiary education, and cross-border barriers to labor, capital, and output).
- Uses a multi-country framework with heterogeneous households, mature firms, and start-ups; banks and NBFIs as distinct intermediaries; and calibrated multi-country structural modelling matched to gravity-based empirical estimates.

### Macroeconomic effects of financial and real-sector barriers
- Channel 1: Barriers hinder efficient allocation of savings across firms and countries, creating capital misallocation that lowers aggregate productivity and output.
- Channel 2: Barriers reduce the pool of intermediaries available to firms, limiting productive financing matches and depressing output.
- Channel 3: Fragmentation weakens competition among intermediaries, increasing intermediation margins and restricted funding; lowering barriers compresses excessive spreads and deepens credit markets.
- Integration can enhance risk sharing but may increase systemic risk (collective moral hazard and cross-country spillovers).

### Empirical findings — Cross-border bank credit
- New policy-distance index averages eight categories: deposit insurance, macroprudential, microprudential, resolution, supervision, governance, entry, and corporate bankruptcy.
- On average, median policy distance is about 0.25; values range from 0.15 to 0.39.
- A simulated 30 percent reduction in bilateral policy distances (akin to fully harmonizing one in three policies across every country pair) could raise the share of cross-border credit from 5 percent to 24 percent.
- Harmonizing corporate bankruptcy laws and deposit insurance each account for one-third of the total effect on credit; bank resolution frameworks and macroprudential policy harmonization have smaller effects. Four other subcomponents are statistically insignificant.
- Effects vary across countries due to pre-existing policy distances and differing degrees of home bias in banking sectors.

### Empirical findings — Venture capital (VC) supply and cross-border VC flows
- Gravity model on VC deals (PitchBook, 2015–24 for firms born after 2010) isolates bilateral frictions and supply-side push factors.
- Bilateral legal differences and withholding tax regimes constrain intra-EU VC flows:
  - Legal harmonization proxy could increase intra-EU cross-border flows by 6 percent.
  - Withholding tax reforms could increase intra-EU cross-border flows by 25 percent.
- Increasing long-term risk capital (pension contributions and insurance assets) to close half the gap with EU and US best-practice settings is associated with an increase in EU VC supply by around 96 percent.
- Even with these supply-side changes, EU VC investment would remain below US levels: EU’s VC investment is roughly one-fourth of the US levels as a share of GDP.

### Empirical findings — Real-sector reforms and VC demand
- Real-sector pull factors correlated with higher VC demand include human capital, public R&D spending, business environment improvements, and market access.
- Illustrative partial equilibrium exercises indicate reducing member states' structural policy gaps across modeled pull factors is associated, on average, with increases in EU VC demand by around 173 percent.
- Among individual factors, investing in higher education and improving the business environment have larger effects on VC demand.
- VC-backed firms in the EU exit abroad (mostly the United States) more than four times as often as VC-backed US firms; market access is key for scaling.

### General equilibrium quantification (multi-country structural model)
- Model calibrated to 20 euro-area countries, matching country-level output, assets, number of firms, and domestic and cross-border portfolios of banks and NBFIs.
- Counterfactuals calibrated to empirical gravity estimates.

Aggregate GDP effects (long term):
- Progress toward harmonizing corporate insolvency, deposit insurance, bank resolution, and macroprudential practices (reducing cross-border banking barriers) could raise EU GDP by about 2 percent.
- Policies reducing barriers to VC supply and cross-border VC investment (legal and tax reforms; expanding long-term risk capital) could raise EU GDP by about 1 percent.
- Pro-innovation/domestic structural reforms that increase start-ups raise EU GDP by about 7 percent when implemented alone.
- Implementing financial reforms together with pro-innovation reforms amplifies gains by an additional 1 percentage point (i.e., combined pro-innovation plus financial integration yields roughly 8 percent relative to baseline).
- Figure note: Total gain from financial reforms = 4percent (as illustrated in the model’s aggregation of effects).

Distributional and market structure effects:
- Smaller countries benefit more than larger countries (EA4 = France, Germany, Italy, and Spain; “Other” = all other euro-area countries).
- Start-ups benefit most: under the comprehensive reform scenario, start-up output more than doubles while mature-firm output declines due to capital reallocation toward higher-return start-ups.
- Cross-border share of bank and NBFI lending rises by approximately 37 percentage points from a base of 15 percent.
- Share of NBFI financing in total firm funding rises by about 19 percentage points from a base of 4 percent, indicating a significant shift toward NBFI and equity-based funding.

### Policy recommendations and priorities
- Complement financial reforms with ambitious real-sector reforms to raise the pool of investable projects: lower product and services barriers, facilitate labor mobility, reduce red tape, strengthen insolvency and restructuring frameworks, enhance skills and tertiary education, and bolster R&D and innovation policies.
- Remove barriers to cross-border banking and advance the banking union while safeguarding financial stability:
  - Harmonize macroprudential capital requirement methodologies and macroprudential toolkits to reduce ring-fencing and regulatory uncertainty.
  - Consider voluntary EU-wide 28th regime elements to harmonize bankruptcy frameworks.
  - Facilitate cross-border bank mergers and acquisitions to increase competition and bank-sector efficiency.
  - Complete the financial safety net: harmonize deposit insurance, finalize backstops (for example, ESM backstop to SRF), and improve liquidity access in resolution.
- Strengthen VC and equity financing to support innovation and scale-up:
  - Expand long-term risk capital by increasing participation in funded pension schemes and insurer assets (auto-enrollment, Pan-European Pension Product revisions, Solvency II review, prudent person principle revisions).
  - Improve retail participation via lower-cost, clearer retail investment products and harmonized investor protection safeguards (asset segregation, insolvency protections, investor compensation arrangements, stronger ESMA role).
  - Use targeted public interventions (pan‑European investment vehicles, EIB/EIF co-investment platforms) to catalyze scale and cross-border diversification, designed to crowd in private capital and avoid distortions.
  - Reduce equity market and CSD fragmentation to improve liquidity and exit prospects for VC-backed firms: enable market participants to operate across trading venues, ease access to central securities depositories, and lower transaction/duplication costs.

### Key statistics and calibrated counterfactual magnitudes (preserved exactly)
- Policy-distance median: about 0.25; range from 0.15 to 0.39.
- Simulated 30 percent reduction in policy distances → share of cross-border credit increases from 5 percent to 24 percent.
- Legal harmonization → intra-EU cross-border VC flows could rise by 6 percent.
- Withholding tax reforms → intra-EU cross-border VC flows could rise by 25 percent.
- Raising pension contribution and insurance assets to close half the gap with best-performing peers → EU VC supply increase by around 96 percent.
- Reducing member states' structural policy gaps across modeled pull factors → average EU VC demand increase by around 173 percent.
- EU’s VC investment is roughly one-fourth of the US levels as a share of GDP.
- Banking integration counterfactual → EU GDP increase of about 2 percent.
- VC supply and cross-border reforms counterfactual → EU GDP increase of about 1 percent.
- Pro-innovation reforms alone → EU GDP increase of about 7 percent.
- Additional amplification from simultaneous financial integration → additional 1 percentage point.
- Total gain from financial reforms illustrated as 4percent in model figure note.
- Base cross-border lending share: 15 percent; simulated increase ≈ 37 percentage points.
- Base share of NBFI funding: 4 percent; simulated increase ≈ 19 percentage points.
- Start-up output under comprehensive reforms: more than doubles.

*Source: IMF staff discussion note (staff calculations and model calibrations) as contained in the provided content unit.*

### Box 1. Recent EU Reform Efforts to Address Financial Fragmentation

### Box 1. Recent EU Reform Efforts to Address Financial Fragmentation

### Objectives and strategic framing
- EU reform impetus driven by reports from Mario Draghi, Enrico Letta, and Christian Noyer calling for improvements in venture-capital ecosystem, consolidation of securities markets infrastructure (Letta 2024), harmonization of insolvency regimes (Draghi 2024), and revival of the securitization market (Noyer 2024).
- SIU (savings and investments union) launched by the EU in March 2025 to build on the BU (banking union) and move beyond earlier CMU (capital markets union) goals by taking a more comprehensive approach to mobilizing savings and integrating markets.
- SIU intends to weaken the bank-sovereign link by building on the BU, through which the SSM and SRM provide uniform standards and a common safety net.

### SIU package adopted by the European Commission (December 2025)
- Core aims:
  - Remove barriers to cross-border activity.
  - Foster innovation.
  - Strengthen supervision.
  - Simplify the regulatory framework.
- Proposed measures (subject to negotiation via EU trilogue process with the European Council and the European Parliament):
  - Enhance passporting for Regulated Markets and CSDs.
  - Introduce a new Pan-European Market Operator status.
  - Streamline distribution of investment funds.
  - Remove regulatory obstacles to distributed ledger technology (DLT) and amend the DLT pilot regulation to provide greater flexibility and legal certainty.
  - Transfer direct oversight of key market infrastructures (for example, major trading venues, central counterparties, CSDs, and crypto-asset service providers) to ESMA.
- Expected effects:
  - Reduce market participation costs by investors across the EU.
  - Lead to efficiency-enhancing consolidation among market operators.
  - Support technological advancement and provide greater legal certainty for DLT.

### Other complementary EU initiatives on capital market functioning
- Discussion of introducing a 28th regime for corporate law: a new legal framework designed specifically for innovative companies to operate alongside national systems, providing a unified set of rules to reduce regulatory costs of navigating 27 different environments (especially significant for young, intangible-asset-heavy firms).
- Venture capital and listing reforms:
  - Amendments to the EuVECA regulation and the EuSEF framework aim to increase scale in VC.
  - European Listing Act of 2024 simplifies the process for SMEs to access public markets.
- Pension and insurance-related measures:
  - EU review of the Solvency II Delegated Regulation to encourage long-term investment by reducing capital requirements for certain equity investments.
- Private markets and infrastructure:
  - ELTIF 2.0 revised in 2024 to encourage both retail and institutional investors to channel capital into private markets and infrastructure.

### Acronyms and terminology (as used in the source)
- BU = banking union
- CMU = capital markets union
- CSDs = Central Securities Depositories
- DLT = distributed ledger technology
- ELTIF 2.0 = European Long-Term Investment Fund framework
- ESMA = European Securities Markets Authority
- EU = European Union
- EuSEF = European Social Entrepreneurship Fund
- EuVECA = European venture capital funds
- SIU = savings and investments union
- SMEs = small and medium enterprise
- SRM = Single Resolution Mechanism
- SSM = Single Supervisory Mechanism
- VC = venture capital

*Source: Box 1. Recent EU Reform Efforts to Address Financial Fragmentation (sdnea2026002).*

### Annex 2. Venture Capital Empirical Analysis

### Annex 2. Venture Capital Empirical Analysis

### A. Data
- Data source: PitchBook deal-level records covering deals from 2015 to 2024 for VC-backed firms founded after 2010, excluding firms based in China, Japan, Korea, and known tax haven jurisdictions.
- Aggregation: Deal-level information is aggregated at the country‑investor level; for deals with multiple investors and no detailed ownership information, an equal share is assigned to each investor.
- Complementary indicators included:
  - Geopolitical distance: language, geographic distance, cultural distance, and common legal system (Pellegrino and others (2025)).
  - Business dynamism: firm entry data from the Bureau of Dynamic Statistics (United States) and OECD DynEmp (Europe).
  - Tax and investment controls: bilateral dividend withholding tax rates and records of bilateral and international investment treaties (Pellegrino and others (2025)).
  - Human capital: share of working-age population with tertiary education from Eurostat.
  - Market access: weighted average of trading partners’ income using bilateral trade costs (Redding and Venables (2004); trade costs from the EU Regional Trade Cost data set; regional income from Eurostat).
  - Business environment distortions: regulatory and bureaucratic burdens from the Fraser Institute.
  - Pensions: country-level private and funded pension contributions (Khan and others (2025)).
  - Insurance assets: total insurance company assets from the World Bank Global Financial Development Database.
  - Top personal income tax rates: statutory top marginal personal income tax rates from the OECD.
  - Macroeconomic indicators: nominal GDP in US dollars and real GDP in constant international dollars based on the International Comparison Program 2017 benchmark from the IMF World Economic Outlook.

### B. Gravity Model
- Estimated at the investor-origin-time level on bilateral VC investment flows using Poisson Pseudo-Maximum Likelihood.
- Model specification (as presented):
  - V_ijt = exp(χ_it + ξ_jt + β_bilat X_ijt) ε_ijt
  - χ_it captures investor-time (push) fixed effects.
  - ξ_jt captures origin-time (pull) fixed effects.
  - Controls include distance, contiguity, language, common legal system, and capital taxes.
- Interpretation and caveats:
  - Results on removing withholding taxes are an upper bound (in practice taxes will not be completely eliminated; reflects potential effect of simplifying procedures).
  - Results on common legal system are a lower-bound proxy for the 28th corporate regime (proposal goes beyond legal harmonization to taxes and insolvency frameworks).
  - Analysis assumes perfectly elastic VC supply (all VC demand could be met); if supply is limited, crowding out of existing VC investments may occur.
  - Exercise does not capture general equilibrium feedbacks (increased VC inflows can raise innovation, growth, wealth, and further VC supply).

### C. Correlating VC Pull and Push Factors with Determinants of Start-up Financing
- Procedure:
  - Extract investor fixed effects (push) and origin fixed effects (pull) from the gravity equation estimated above for Europe and the United States.
  - Correlate investor fixed effects with supply-side variables (e.g., pension contributions, insurance assets) via OLS to capture determinants of VC supply.
  - Correlate origin fixed effects with demand-side / opportunity variables (e.g., human capital, market access, business environment distortions, top personal income taxes) to capture availability of investable projects.

### D. Regression-Based Illustrative Exercises
- Purpose: Use estimated coefficients to quantify effects of structural reforms on venture capital activity via partial equilibrium exercises.
- Push-side exercise (VC supply):
  - Simulate increasing contributions to funded and private pensions by closing half of the gap with the top two countries in the European Union and the United States with the most growth-friendly settings.
- Pull-side exercises (investment opportunities):
  - Close half of the gap relative to the top two performers in the European Union and the United States on:
    - public R&D spending,
    - share of tertiary-educated workers,
    - business environment distortions.
  - Top personal income tax (PIT) adjustment rule:
    - reduce PIT by 5 percentage points if it is above 45 percent;
    - set PIT at 40 percent if it is between 40 and 45 percent;
    - no change if PIT is below 40 percent.
  - Market access calibration: implied increase aligned with IMF (2025), halving the distance between intra-EU and intra-US estimated trade costs.
- Legal harmonization and withholding tax experiments:
  - Legal harmonization exercise: turn the same-legal-origin dummy variable from 0 to 1 as a lower-bound proxy for the 28th corporate regime.
  - Bilateral withholding tax exercise: assume bilateral withholding taxes go to zero; results should be seen as an upper bound on potential effects of simplifying withholding tax procedures.

*Source: sdnea2026002 - Annex 2. Venture Capital Empirical Analysis*

### References

### sdnea2026002 - References

### Primary themes in the cited literature
- Europe’s productivity weakness and firm-level roots and remedies (Adilbish et al. 2025).
- Barriers to innovation financing and venture capital in Europe (Arnold et al. 2024; Huang, Vaziri, and Cerdeiro, forthcoming; Kukies and Noyer, 2026).
- Financial integration, capital markets union, and European banking union (Bhatia et al. 2019; Capelle et al., forthcoming; Dutch Authority for the Financial Markets (AFM) and De Nederlandsche Bank (DNB). 2024; European Central Bank (ECB). 2024).
- Risk sharing—private and public channels, changing patterns, and the bank-sovereign nexus (Asdrubali et al. 1996; Asdrubali and Kim 2004; Cimadomo et al. 2022; Cimadomo et al. 2023; Giovannini et al. 2022; Andreeva and Vlassopoulos 2019).
- Home bias, information immobility, and international capital allocation frictions (Coeurdacier and Rey 2013; Van Nieuwerburgh and Veldkamp 2009; Solnik and Zuo 2012; Pellegrino, Spolaore, and Wacziarg 2025).
- National-level structural reform priorities and lifting binding constraints on growth in Europe (Budina et al. 2025; Arnold et al. 2025; Kammer 2025; Kammer, Ayerst, and Tang 2026).
- Market structure and corporate activity: stock market driven acquisitions, tax sensitivity of leverage, and asset market bubbles (Shleifer and Vishny 2003; Heider and Ljungqvist 2015; Gan 2007).
- Policy proposals and competitiveness strategies for Europe (Draghi 2024; Letta 2024; Strömberg 2024).

### Notable working papers, reports, and institutional outputs cited
- IMF Working Paper No. 25/040 — Adilbish, Oyun Erdene, Diego Cerdeiro, Romain Duval, Gee Hee Hong, Luca Mazzone, Lorenzo Rotunno, Hasan H. Toprak, and Maryam Vaziri. 2025.
- IMF Working Paper No. 24/146 — Arnold, Nathaniel, Guillaume Claveres, and Jan Frie. 2024.
- IMF Working Paper No. 25/113 — Arnold et al. 2025.
- IMF Working Paper No. 25/104 — Budina et al. 2025.
- IMF Staff Discussion Note No. 19/07 — Bhatia et al. 2019.
- IMF Country Report No. 25/203 — IMF. 2025b.
- ECB Occasional Paper No. 306 and No. 295 — Cimadomo et al. 2022; Giovannini et al. 2022.
- ECB Working Paper Series 2849 — Cimadomo et al. 2023.
- European Investment Bank (EIB). 2026 report on Drivers of Relocation by Innovative EU Startups and Scale-Ups.
- European Stability Mechanism (ESM). 2025 report on Post-Trade Settlement Fragmentation and the Case for a Unified Ledger.
- German Federal Ministry of Finance. 2026 — Kukies and Noyer, Final Report of the FIVE Task Force: Financing Innovative Ventures in Europe.

### Methodological and empirical sources referenced
- Sampling and estimation foundations: Horvitz and Thompson 1952; Manski and Lerman 1977; Solon, Haider, and Wooldridge 2015; Wooldridge 1999.
- Econometric and empirical tools: Santos Silva and Tenreyro 2006 (“The Log of Gravity”); Gower 1971 (coefficient of similarity); Uppal and Wang 2003 (model misspecification).
- Sector- and firm-level analyses: Asdrubali et al. 1996; Gan 2007; Shleifer and Vishny 2003; Pellegrino, Spolaore, and Wacziarg 2025.

### Policy-relevant topics and propositions visible in the references
- Deepening the Single Market and lifting binding constraints to scale up firms and boost growth (Arnold et al. 2025; Dizioli, Fotiou, and Garrido, forthcoming).
- Developing a Savings and Investments Union and proposals for a 28th European Enterprise Regime (Kammer and Fotiou 2025; Dizioli et al., forthcoming; Noyer 2024).
- Addressing post-trade settlement fragmentation and advocating a unified ledger (ESM 2025).
- Proposals aimed at crowding in large-scale investment through reforms and pension reform linkages to stock market development (Kammer, Ayerst, and Tang 2026; Khan, Li, and Zhao 2025).
- Calls for policy action to promote high-growth innovative firms and venture capital activity to finance innovation in Europe (Strömberg 2024; Arnold et al. 2024; Huang, Vaziri, and Cerdeiro, forthcoming).

*Source: sdnea2026002 - References*

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_Source: https://www.imf.org/-/media/files/publications/sdn/2026/english/sdnea2026002.pdf_