European financial system’s structural shortcomings threaten industrial ambitions

Competitiveness has become the defining priority of the new European Commission, yet one essential pillar remains underexamined: the competitiveness of the EU’s financial system. The argument advanced in a recent opinion piece by Judith Arnal and Pablo Zalba , that Europe’s industrial ambitions will remain structurally constrained without a financial sector able to mobilise capital, support innovation and enable firms to scale , is borne out by multiple datasets and industry studies that point to persistent structural shortfalls.

Across several dimensions the EU lags major peers. According to an IMF analysis of the global investment funds market, the United States held roughly 49.6% of fund assets in 2023, representing about €33.2 trillion of net assets versus €20.1 trillion in Europe. Industry data show Europe’s funds are smaller on average and more numerous, a fragmentation that raises costs and limits cross-border scale. EFAMA’s review notes that in 2023 the average European equity UCITS fund was about €501 million, compared with roughly $3.5 billion for US mutual funds, while Europe hosted over 10,000 equity UCITS funds versus a far smaller number in the US.

The innovation finance gap is acute. CEPS research finds venture capital in the EU remains a fraction of US levels , with EU27 VC around 0.1% of GDP in 2023 versus approximately 0.6% in the US , constraining early-stage deep-tech development and the scaling of high-growth firms. McKinsey’s analysis of private capital similarly underscores that, while European private equity and venture capital managers hold substantial assets under management, deal volumes and annual investments in Europe remain well below US comparators, limiting the pool of growth capital for technology-led industrial transformation.

A further structural problem is the uneven supply of patient, long-term capital. Pension fund assets as a share of GDP vary widely across Europe, creating an inconsistent base of long-horizon financing for infrastructure and decarbonisation projects. National data illustrate the point: De Nederlandsche Bank reports Dutch pension funds hold substantially more direct investment in US companies than in EU firms , €293 billion in US non-financial corporates versus €97 billion in EU ones at end-2024 , reflecting both the attraction of larger US markets and the portfolio strategies of institutional investors.

Banking-sector inefficiencies compound these gaps. Euro-area banks have historically traded below book value and operate with higher cost structures and limited cross-border integration, which restricts their capacity to invest in digital transformation and to underwrite larger industrial projects. Smaller fund sizes, fragmented markets and higher retail costs translate into a higher effective cost of capital for European businesses, with direct implications for productivity and for the capital intensity required by the low-carbon transition.

Addressing this requires a systemic, not merely institutional, lens. Arnal and Zalba propose embedding financial competitiveness as a secondary objective in regulation and supervision, subordinate to financial stability and consumer protection. Such a framework would assess financing capacity, profitability and value creation, resilience across prudential and resolution tools, and market participation including digitalisation and contestability. This aligns with recent industry and policy work that argues scaling fund size and reducing fragmentation are among the most effective levers to lower costs and improve cross-border capital allocation; EFAMA’s report, for example, concludes that increasing average fund assets is a stronger route to cost reduction than simply consolidating fund numbers.

Policy measures already in train offer partial remedies but need sharper alignment with competitiveness goals. The Commission’s Savings and Investment Union aims to ease cross-border retail investment and channel more domestic savings into European capital markets; industry reporting indicates that regulatory streamlining has helped attract capital flows, and one market commentary observed a notable uptick in hedge fund allocations to Europe as regulatory innovation and sector opportunities emerged. Yet momentum must be sustained: supervisors should build competitiveness impact analysis into legislative appraisal, and reporting to the European Parliament should extend beyond prudential metrics to track Europe’s relative performance in mobilising long-term, risk-tolerant capital for strategic sectors such as industrial decarbonisation.

Reform should be pragmatic and international in outlook. The proposal to adopt competitiveness as a secondary regulatory objective mirrors elements of the UK framework and would complement, not replace, existing stability-focused regimes. Industry research from McKinsey underlines the potential upside: scaling private capital deployment and improving fund-market liquidity could materially strengthen Europe’s capacity to finance the green transition and to retain high-growth firms domestically.

Europe’s industrial strategy will succeed only if its financial plumbing is fit for purpose. Policymakers can close several of the identified gaps by prioritising scale, reducing fragmentation, incentivising long-term institutional investment and ensuring regulatory impact assessments explicitly measure implications for the four proposed competitiveness dimensions. Without this systemic recalibration, the EU risks exporting its most promising firms and importing the capital it needs to decarbonise and modernise its industrial base.