What Difference Would a Capital Markets Union Make for Risk-Sharing in the EU?

A Capital Markets Union (CMU) is the great hope of European policymakers. The plan for a CMU tries to reduce the reliance of European investors on banks and build up a market-based risk-sharing channel between member states. Our empirical analysis raises doubts that this can be achieved through the CMU as presently conceived. In line with other skeptics, we provide evidence that (i) financial flows are generally pro-cyclical; (ii) market-based risk-sharing mechanisms tend to break down for member states when they would be most needed; and (iii) even the most developed capital markets crash in a systemic financial crisis. During the Great Recession, failing market risk-sharing was replaced by the ECB through the cross-border payments system TARGET and by troika programs. We conclude that public safety nets must be robust enough to substitute for markets. The CMU is unlikely to make much difference to risk-sharing within the EU.