Opinion of the European Economic and Social Committee on The economic and social consequences of financial market trends
Date: 2007-09-26
Institutions: European Economic and Social Committee
Subjects: economic and social cohesion, financial institution, financial market, globalisation

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Opinion of the European Economic and Social Committee on ‘The economic and social conse-
quences of financial market trends’

(2008/C 10/23)

On 17 January 2007, the European Economic and Social Committee decided, in accordance with Rule 29(2)
of its Rules of Procedure, to draw up an opinion on The economic and social consequences of financial market
trends.

The Section for Economic and Monetary Union and Economic and Social Cohesion, which was responsible
for preparing the Committee's work on the subject, adopted its opinion on 4 September 2007. The rappor-
teur was Mr Derruine.

At its 438th plenary session, held on 26 and 27 September (meeting of 26 September), the European
Economic and Social Committee adopted the following opinion by 115 votes to 25 with 13 abstentions.

1. Recommendations

Information, transparency and protection of investors and consumers

1.1
It is important to develop statistical instruments that will
give a better picture of the hedge funds and private equities
industries and to develop indicators for corporate governance,
all of which are subject to harmonisation, at least at European
level.

1.2
In order to alleviate the increasing suspicions weighing
on part of the financial industry, to limit the danger of undue
risks (especially indebtedness) generating systemic shocks and to
ensure respect for fair competition between the various types of
investment, prudential standards should be applied to hedge
funds and private equity funds (a ‘Basel III’).

1.3
‘The EESC would urge the Commission to present, as
soon as possible, its draft legislative provisions aimed at step-
ping up the information provided by institutional investors with
regard to their policies in respect of investment and voting’ (1).

1.5
The Commission should encourage and pursue, together
with the interested parties, (including banks, consumers' associa-
initiatives
tions, the public authorities and service providers)
aimed at
financial
raising the awareness of consumers of
services, who generally do not possess the requisite financial
background and knowledge and are therefore unaware of the
risks involved (3).

Listed companies which have been bought out but whose
1.6
turnover or number of employees exceeds a given threshold
should always be required to publish a minimum amount of
information when they are withdrawn from the Stock Exchange
and are no longer subject to the inherent reporting require-
ments.

Risk management and diversification

1.7
It would be appropriate to think about the possibility of
introducing an obligation to diversify the portfolio of the funds
invested in, particularly in the case of save-as-you-earn schemes,
using existing models as a basis (see also 1.2).

it

the financial market and to the EU.
is likely that

The American subprime crisis has spread to other sectors
1.8
In the event of a
of
European banking crisis,
the costs incurred
would be substantial because of the fragmentation of supervi-
sion, which would slow down any appropriate reaction. Under
the subsidiarity principle, the major banks should be subject to
supervision at European level. The Committee invites these
banks, along with the Commission and the Committee of
European Banking Supervisors (CEBS) to confer in order to spell
out the conditions and define the criteria for identifying the
banks concerned.

1.4
In order to enhance protection for investors placing their
money in private equity funds, the UCITS directive (2) should be
amended so that it also covers these players and obliges them to
be more transparent. Although the promise of high returns may
be a factor in attracting investment, the final investor may be
unaware of the risks involved.

1.9
In the case of delegated management, which permits
diversification of management risk, extending the length of
management mandates would encourage a more long-term
approach and limit speculation that goes beyond arbitrage, in
order to limit the bias towards the short-term and the race for
profits fuelled by the speculative attitudes of management
service providers.

(1) CESE, INT/332, ‘Review of the Single Market’, 2007.
(2) Directive 85/611/EEC/ of the Council of 20 December 1985 on the
coordination of laws, regulations and administrative provisions relating
to undertakings for collective investment in transferable securities
(UCITS) — OJ L 375 of 31.12.1985, pp. 3-18.

(3) As it emerged from the conference ‘Increasing financial capability’ orga-
nised by the European Commission in March 2007, the Sandler report
presented to the UK Chancellor of the Exchequer, Gordon Brown,
contains interesting avenues for reflection.

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1.10
Financial rating agencies — which are both judge and
defendant here, in the sense that they help investment banks to
design, value and place derivatives — should be subject to
greater transparency.

defined at Community level. These should be set out in a frame-
work directive and,
in individual sector-specific
directives’. (8)

if necessary,

Reconciling the financial strategy and the European social model

The use of

tax incentives might encourage pension
1.11
to integrate
funds, which adopt a more long-term strategy,
quality and social responsibility (4) into their financial
invest-
ment policies; socially responsible investments currently repre-
sent only a limited proportion of the total (5).

1.12
The Commission and the Member States must ensure
that corporate social responsibility applies to all
the stake-
including investment funds, which have an influence
holders,
on the companies which they are involved with, and sometimes
manage. In this connection, the EESC raises the issue of the
application of the directive on information and consultation of
workers to holding companies (6) and, if they are not covered
by this directive, asks that it be reviewed.

this,

To complement

1.13
the Directive on Safeguarding
employees' rights in the event of transfers of undertakings (7)
should be brought up to date to guarantee that transfers of
undertakings resulting from operations to transfer these shares
are also covered,
for workers'
rights to information and consultation.

thereby ensuring due respect

1.14
broken down into at
impact of wage policy on price stability more clearly.

Statistics on wages (and perhaps incomes) should be
in order to gauge the

least quintiles,

Services of general economic interest are an essential
1.15
pillar of the European social model. They are also a prime target
for private equity funds, which opt for leveraged buy-outs, as
SGIs generate significant cash-flow, are in a position of (near-)
monopoly, have low debts and high operating costs. In order to
prevent problems for consumers and citizens or any damage
being caused to cohesion,
‘[t]he EESC reiterates its call for the
common basic principles to which all SGIs must adhere to be

(4) See in particular the work carried out under the United Nations Envir-
onment Programme Finance Initiative (UNEPFI) including the report, ‘A
legal framework for the integration of environmental, social and
governance issues into institutional investment’ (2005).

(5) See in particular the work carried out under the United Nations Envir-
onment Programme Finance Initiative (UNEPFI), including the report,
‘A legal framework for the integration of environmental, social and
governance issues into institutional investment’ (2005).

(6) Directive 2002/14/EC of the European Parliament and of the Council
of 11 March 2002 establishing a general framework for informing and
consulting employees in the European Community — Joint Declaration
of the European Parliament, the Council and the Commission on
employee representation, OJ L 80 of 23.3.2002, pp. 29-34.

(7) Directive (2001/23/EC) of the Council of 12 March 2001 relating to
the safeguarding of employees' rights in the event of transfers of under-
takings, businesses or parts of undertakings or businesses. OJ L 82 of
22.3.2001, pp. 16-20.

Equal tax treatment

1.16
As some countries have already done or are about to
do (Denmark, Germany and the United Kingdom), consideration
should be given — with due respect for the principle of subsi-
diarity — to rules restricting the tax deductibility of interest
payments on debt in the event of a company buyout.

1.17
Further to the work already undertaken by the OECD
and the moves to combat unfair competition from tax havens,
consideration should be given to the possibility of changing the
tax rules so that the place where the manager actually operates
from determines the tax base for hedge funds, given that these
places are usually major cities in the OECD countries. Accord-
ingly, the applicable tax rate should be the rate for normal
income rather than the rate for capital gain.

Since a great many very short-term investment deci-
1.18
sions are taken in offshore tax havens, the Committee urges the
Council, the Commission and the ECB to think about the possi-
bility of action based on Article 59 of the Treaty (9).

1.19
The Committee highlights the importance of coordi-
nating fiscal policy more closely, setting minimum requirements,
especially for the various forms of capital taxation. This policy
can be justified on the grounds of both fairness and economic
efficiency.

2. Introduction

2.1
Over the past 25 years, the global economy has under-
gone profound and far-reaching changes. Although we are
usually content to explain this phenomenon under the label of
globalisation, we are not sufficiently aware of
its financial
dimension or the creation of a global financial market.

2.2
Accordingly, while both the media and policy-makers
continue to focus on the indicator of GDP, a new approach is
needed to take proper account of the actual reality. In 2002,
global GDP represented 32 thousand trillion dollars. However,
although this figure may appear astronomical, it is nothing in
comparison with the total sum of financial transactions outside
GDP (1 123 thousand trillion dollars) which are 35 times
greater in value!

(8) See, among other things, The future of services of general interest,

OJ C 309, 16.12.2006.

(9) ‘Where, in exceptional circumstances, movements of capital to or from
third countries cause, or threaten to cause, serious difficulties for the
operation of economic and monetary union, the Council, acting by a
qualified majority on a proposal from the Commission and after
consulting the ECB, may take safeguard measures with regard to third
countries for a period not exceeding six months if such measures are
strictly necessary’.

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The global economic sphere (in trillions of US dollars, 2002)

Trading and production

Currency used for settlement

Derivatives transactions

699

United States (dollars)

Exchange transactions

384,4 (*)

Euro system (euros)

Financial transactions

Goods and services transactions
(global GDP)

39,3

32,3

Japan (yen)

Other monetary zones

405,7

372,9

192,8

183,6

Total (interbank transactions)

1 155

Total (interbank settlements)

1 155,0

(*) Including 8 for international commercial transactions.
Source: François Morin, ‘Le Nouveau mur de l'argent: Essai sur la finance globalisée’, 2006.

Institutional investors are spearheading financial globalisation. Their emergence has been accompa-
2.3
nied by the spread of Anglo-Saxon corporate governance practices (such as protection of minority share-
holders, obligations in relation to transparency, institutional activism at general meetings and changes in the
relationship between shareholders, managers and workers) and the appearance of credit derivatives, new
financial instruments which make it possible to disperse the risks previously seen as intrinsic to certain
types of investments. These changes have either been made possible or accelerated by the new information
and communication technologies.

2.4
At this stage, it should be stressed that the strategies implemented by institutional investors in the
broad sense differ according to their investment horizons. Whilst some investors practise arbitrage, which
tends to stabilise financial markets, others, such as pension funds, must act in response to very long-term
commitments. The same name may also cover widely differing practices. For example, some private equity
funds specialising in leveraged buy-outs invest in an enterprise for a period of three to five years, whilst
others, operating as business angels, provide innovative SMEs with risk capital and may be committed for as
many as fifteen years (10).

Length of holding

Shares

bonds

Hedge funds

1 to 5 months

1 to 5 months

Other investment funds

9 months to 1 year

1 to 6 months

Insurance

Households

1 and 2/3 years to 3 and
1/3 years

6 months to 2 1/2 years

3 to 5 years

8 months to 4 years

Source: Natixis, ‘The effect of the presence of hedge funds on the balance of financial markets’, Recherche économique, No 2007-04.

2.4.1.
Having said this, these actors may also have close links with each other. For example, 24 % of the
capital raised by private equity funds in 2005 came from the pension fund sector, 18 % from commercial
and investment banks, and 11 % from insurance (11). One of the increasingly important functions of invest-
ment funds and other asset management companies is to provide management services to pension funds
and insurers via management mandates.

(10) In simple terms, here are some characteristics which can help to distinguish more clearly between hedge funds and private
equities. Hedge funds work on marketable assets: i.e. shares, but also raw materials, credit derivatives and so on. They use
various kinds of strategy to reach their objective, which is absolute return. When they invest in a company, they are happy
with a low percentage of shares, but are proactive in influencing the choices made by the company. The aim of private
equities is to extract value, mainly through company acquisitions, using debt. The company in question is then no longer
listed and therefore no longer bound by disclosure requirements. After totally restructuring the company over several
years, the private equity then disinvests from the enterprise.

(11) M. Aglieta ‘The surge in private equity’, 2007.

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2.5
Institutional investors, who had already developed to a
certain extent in the Anglo-Saxon countries twenty years ago,
have become increasingly interested in the countries of conti-
nental Europe. Funds have also been created in the various
Member States. However, at the current time, American inves-
tors still control half of all collectively managed assets.

The

that

institutional

current estimate

2.6
investors
is
account for 80 % of stock market transactions. Accordingly, it
would seem unrealistic to take investment positions opposed to
those of the major investment bodies. They are also the main
players when it comes to holding cross-border shares. A Euroba-
rometer poll (in August 2005) revealed that only 1 % of house-
holds owned shares from a foreign company and that barely 3 %
would consider buying foreign shares! Moreover, very few of
them take an active part in shareholders' general assemblies
whilst institutional investors have been playing an increasingly
visible and active role in these for several years.

This opinion is concerned, primarily, with listed compa-
2.7
nies, since they are active on the stock markets. These tend to
be very large companies. However, since they have a decisive
influence on employment and the behaviour of other enter-
prises, the ‘changes’ they are subject to also affect the economy
and society as a whole:

typical of countries with a high proportion of listed compa-
nies.

— In the model characteristic of continental Europe and most
other countries, including Japan, shareholders tend to hold
blocks of 10 to 20 % of shares, which gives them effective
control. Investors include the State, banks or other compa-
nies, and are directly involved in the management of the
companies. Unlike the previous model, workers are also
involved to a certain extent in the company's affairs, the
most extreme example being the German ‘Mitbestimmung’.

3.2
Over the past twenty years, the continental European
model has converged towards the Anglo-Saxon model. The
factors encouraging this process include: the Single European
Act and the privatisation of State corporations, tax reforms in
Germany, particularly on capital gains in the stock market,
which have led banks to sell their shares in industry, the require-
ment for institutional investors to use their voting rights, intro-
duced by the American Labour Department (1988 and 1994),
the vitality of the US economy during the 1990s in comparison
with the relative stagnation in continental Europe, the listing of
major companies on several stock exchanges and the new inter-
national accounting standards.

— these companies generate one in every three jobs in Europe

and one in every two in the United States;

Nevertheless, capitalism still assumes diverse national

3.3
and regional forms, as a result of:

— they predominate in the extractive industries, transport and
telecommunications and corporate services, in other words
sectors that are key nerve centres;

— the diversity of economic institutions at national
terms of law, politics, culture and resource base;

level,

in

— they also influence

the way SMEs operate,

through

sub-contracting and financial involvement.

3. Convergence of corporate governance systems (12)

3.1
A distinction is usually drawn between two different
corporate governance models, with different types of institutions
and practices influencing the ways companies are directed,
administered or controlled, different types of relations between
stakeholders and different objectives assigned to companies.

— The Anglo-Saxon model

is characterised by enterprises
where ownership is extremely dispersed and institutional
investors very present, even if they are not directly involved
in the management of the company. Although each indivi-
dual investor generally holds no more than 3 % of the total
shares, they exert their influence through actually selling or
signalling their intent to sell their shares. This system is

(12) James Shinn, ‘Private profit or public purpose? Shallow convergence
on the shareholder model’, Princeton University, 2001. Contains
studies covering 14 countries: the United States, the United Kingdom;
Belgium, France, Germany, Italy, the Netherlands, Spain; China, Japan,
South Korea, Malaysia, Singapore and Taïwan Roger M. Baker, ‘Insiders,
outsiders, and change in European corporate governance’, University
of Oxford, 2006.

— the interdependence of capital and labour markets and
between the legislation and standards regulating the ways
companies operate;

— the cost of moving to another system, since changing just
one of the elements mentioned above puts the coherence of
the whole at risk.

4. Economic impact

4.1
The rapid rise of institutional investors has democratised
access to financial markets and helped to diversify portfolio
team. By
risks, by offering the expertise of a management
pooling household savings, more and more diverse funds are
available, which reduces the risk borne by individual investors.
UCITS offer access to potentially high capital yields for indivi-
investors with modest financial means and little market
dual
the
expertise. For
concentration of capital in the hands of institutional investors
reduces the costs of negotiation, by providing a single interlo-
cutor.

enterprises and public administrations,

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4.2
Institutional investors of all kinds (including hedge funds,
pension funds, banks, insurers and private equities) manage the
wealth of around 300 million households, mainly in the United
States, Europe and Japan (13). Their aim is to maximise the
returns on their principals' savings, in line with the level of risk
they are prepared to assume.

the needs of
industry, reduction of a company's sphere of
activity and integration of its tasks into the group's activity to
help diversify the investment portfolio, relocations, staff cuts
and flexible work contracts to reduce fixed costs or convert
them into variable costs (16).

4.3
From the perspective of consumers and households,
tautologically, the growing proportion of household wealth in
investment fund shares implies an increase in the exposure of
household wealth to market risk (14).

instance,

4.4
Apart from UCITS and insurers, pension funds are well
known to the general public. They are presented as one of the
ways of bringing down the costs of the demographic trend
into two types:
towards ageing of the population. They fall
defined benefits schemes and defined contributions schemes. In
the first
the
employer, and in the second case, by the final saver. Although
this second type of scheme is characterised by a riskier assets
structure, they are becoming increasingly popular, since spon-
sors are seeking to minimise the risk generated by their long-
term commitments and employees are increasingly drawn to
saving schemes which can offer higher yields and rights that are
more easily transferred from one employer to another (15).

the risk is born by the sponsor,

i.e.

Their assets are managed by the funds

4.5
themselves,
although management is very often delegated (either fully or
partially) to mutual funds or other management companies. So,
although the
theoretically long,
management performance is actually judged in the short term
and on the basis of profits alone. This explains why the propor-
tions of shares in total assets has risen sharply and has contrib-
uted to the rise in share prices.

investment horizons

are

4.6
The convergence of the two models of corporate govern-
ance, together with the development of ICTs, increased activism
on the part of institutional investors and the latters' profit yard-
stick have led large enterprises to focus exclusively on maxi-
mising the returns on their shares (dividends and capital gains).
Issues relating to their capacity to generate future cash flow or
the partnership approach highlighted in the European social
model have been pushed into the background.

A new type of governance has therefore emerged. Its
4.7
is to be proactive in changing to different strategies, to
goal
ensure that value is continually created for shareholders, rather
than medium or long-term improvements in competitiveness,
which may thereby be compromised. Such strategies include
share buy-backs, where a company buys back its own shares in
order to increase the indicator of its net return on equity (ROE),
mergers and acquisitions (M&A), sometimes totally unrelated to

(13) J. Peyrelevade, ‘Le capitalisme total’, 2005, pp. 39-42.
(14) BIPE, The proportion of households' financial wealth invested in
shares, mutual funds, life insurance and pensions more than doubled
in Germany, Italy and France between 1980 and 1998, reaching
almost 50 % in the first two countries and 66 % in the third. In the
United Kingdom, although the rise began from a higher threshold,
these products have nevertheless continued to progress from 52 to
76 %.

(15) BIPE, ‘La montée en puissance des investisseurs institutionnels: impli-
cations réglementaires’ (The rise of institutional investors: implications
for regulations). Study carried out for the French Senate, January
2003.

4.8
Generally speaking, the requirement for a high return on
equity in real terms, from 10 to 20 % depending on the sector,
has destablising macro-economic effects: such high returns
imply that growth in profits is much higher than GDP. This has
led, (along with other factors, such as migration, relocations,
increased import penetration) to a rising proportion of wealth
being held by those with capital. We are witnessing a new distri-
bution of added value in Europe. According to data from the
European Commission, the OECD and the BRI, the share of
salaries in GDP (taking the average of
from
71,5 % in the 1980s to 66,7 % in 2004. This shift in nearly
5 GDP points has been reflected in a symmetrical rise in capital
returns (profits).

the EU15)

fell

4.8.1
The macroeconomic impact of such a considerable
change in the distribution of wealth is deflationary; it increases
global savings but, since workers' purchasing power has barely
risen, their demand lacks dynamism and enterprises are not
therefore encouraged to invest. On the other hand, a large
proportion of their profits is redistributed to shareholders (in
the form of dividends and share buybacks), which creates
surplus liquidity and the phenomenon becomes self-sustaining.

4.8.2 Moreover, since the key OECD countries are competing
against each other to attract direct foreign investment stimulated
by surplus liquidity but held back by the slow growth of
domestic markets, they have introduced tax reduction policies
which could cripple public finances, unless public spending,
apart
is
reduced.

from social expenditure (c.f. ageing populations),

leveraged buyouts also have implications

4.8.3
Indeed, since interest on debt is exempt from tax in
many countries, leveraged buyouts are equivalent to a form of
public authority subsidy for the operations of private equity
funds. This places them in an advantageous position. Further-
more, apart from the question of unfair competition in relation
to other economic actors which do not use this type of proce-
dure,
for public
finances. A study conducted for the Danish Ministry of Taxa-
tion (17) predicts that, all other things being equal, in Denmark,
these losses could represent 25 % of the total
income from
company taxation two years from now. A similar situation
pertains in most other European countries and countries in the
euro area, which are subject to the budget criteria of the Stabi-
lity and Growth Pact.

(16) See in particular S. M. Bilger and K. F. Hallock ‘Mass layoffs and CEO
turnover’, 2005 et Chicago Fed Letter ‘Assessing the impact of job loss
on workers and firms’, April 2006.

(17) Ministry of Taxation, Denmark, ‘Status pa SKATs kontrolindsats verdr-
rorende kapitalfondes overtagelse af 7 danske koncerner’, March
2007.

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4.8.4 With regard to the remuneration of fund managers, the
20 % carried interest
they traditionally pay on returns in
excess of certain thresholds is, as a rule, taxed at the lower rate,
i.e. that applied to capital gains, and not at the higher rate of
tax on normal income. There is no justification for this, since
they themselves only contribute a marginal amount of
the
capital. This situation leads to a problem of unequal tax treat-
ment between these individuals and other workers who are
more heavily taxed.

4.9
It is not only companies' nature and strategies which
have evolved, but also the role of the chief executive. Ten years
ago, the CEO's job was all about ‘stewardship’ of the corpora-
tion's assets for stakeholders; today, it's all about the bottom line
for investors. The rate of CEO dismissals and other forced depar-
tures on the grounds of poor shareholder returns reached its
peak in 2005, when four times as many of the world's top
CEOs were forced out as ten years before. More than one in
seven of the world's largest companies made a change in leader-
ship — compared with one in 11 only a decade earlier. Their
tenure has also been reduced. This increasingly rapid turnover
can lead to problems, since the changes that need to be made
within enterprises usually take three or four years to implement.

4.9.1
As a result, since many management boards find them-
selves without candidates to succeed the dismissed CEO this
recruitment strategy can cascade into further increases in CEO
salaries — not only due to the additional compensation required
to motivate a chief to change jobs, but also to the efforts of
companies to retain their CEOs.
Indeed, an overwhelming
majority (90 %) of institutional investors are concerned about
what is seen as excessively high pay for managers and the lack
of any positive effect on company performance (78 %) (18).

4.9.2
Although companies appear to be distancing them-
selves from the stock options which have led to conflicts of
interest and major scandals, the practice of giving ‘golden para-
chutes’ and other rewards to CEOs who have failed to improve
company performance (in terms of competitiveness and jobs) is
shocking in the eyes of the public.

5. Cohesion/social inequalities

On the one hand, although the high dividends paid to
5.1
shareholders have been justified in the past by the risk involved
in the operations in which they are investing their capital, the
basis of this argument has been seriously undermined by the
developments which have taken place in recent years.

5.1.1
In fact, their liability is limited to their own contribu-
tions, and the negotiability of their asset — which is linked to
the growing liquidity of financial and stock markets resulting

from their globalisation and the introduction of new technolo-
gies — considerably reduces the level of risk they bear, whilst
also giving them unequalled exit and diversification capacity.

5.2 Moreover, economists have observed a seasonal pattern
to redundancies, which peak in January and June,
in other
words, the time when companies' annual budgets are deter-
mined and revised. The conclusion was that the redundancies
were motivated by a desire to improve the bottom line, rather
than to meet industry requirements (19).

5.2.1
In addition, there is a trend towards individualisation
of work contracts and salaries and an explosion in the numbers
of atypical contracts such as fixed-term and part-time contracts,
intended to convert a proportion of the fixed costs linked with
salaries into variable costs and, ultimately, to increase the profit
and therefore the return on equity.
In 1992, 25,4 % of
employees were employed on fixed-term or part-time contracts.
In 2005, the proportion had risen to 33 %. Except in 2005
this kind has far
itself, the growth in insecure contracts of
outpaced the growth in new jobs and, as far as fixed-term
contracts are concerned, only led to a permanent contract in
33 % of cases (as against 22 % to cessation of employment and
39 % to another contract of the same type) (20).

5.2.2
enterprises:

This is resulting in new risks for both workers and

— enterprises do not invest in these mobile workers, who in
their turn do not invest their energy, since they have less
feeling of belonging to the enterprise and fear that they will
not draw any concrete benefits from training (21) (22);

— in the knowledge society, human capital

is increasingly
specific to particular enterprises and therefore not easily
redeployed (i.e. it cannot actually be transposed from one
firm to another) (23);

— workers' representatives can no longer identify the interlocu-
tors they need to approach in the context of social dialogue,
since ‘their company director’ is actually a fluctuating and
atomised group of faceless shareholders;

— workers are put in the position of competing against each

other:

— at global level, due to the high mobility of productive
and financial capital and the doubling in the number of
workers participating in the economy following the
collapse of the Soviet bloc and the entry of other coun-
tries, notably China and India on to the international
scene;

(19) D. Plihon, ‘Précarité et flexibilité du travail, avatars de la mondialisation

du capital’, 2006.

(20) COM(2003) 728 final ‘Improving quality in work: a review of recent

progress’.

(21) Since human capital is increasingly singled out as a factor contributing
to competitiveness in a knowledge economy, it is astonishing that it is
not counted as an asset on companies' balance sheets.

(22) European Working Conditions Observatory,

‘Fourth European

(18) Watson Wyatt, ‘Corporate directors give executive pay model mixed

reviews’, June 2006.

Working Conditions Survey’, 2007, p. 49.

(23) Cf. § 6.4 and following paragraphs.

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— at national level, due to the unemployment rate and the
proliferation of very low quality jobs, which drives up
the value of good quality jobs, and to the paradox of
training: on the one hand, it is now good form to high-
light the need for training and the mismatch between
jobs and skills, on the other, almost one in three
workers feel that they are overqualified in relation to the
requirements of their current jobs and the least qualified
workers and interim workers are not offered sufficient
training;

that worker mobility is

— the setting of worker against worker is exacerbated by
relatively limited,
the fact
because of the maintenance of transitional periods for
legislation on economic migration,
under which
foreigners' access to the labour market is made contin-
in particular
gent on the

existence of

shortages

(political

occupational categories
the
absence of any real progress in relation to transferability
of pension rights or the overheating of the property
inadequate
market
knowledge of languages (cultural restrictions).

(socio-economic

restrictions) or

restrictions) or

A new balance must be found between shareholders
5.2.3
and workers. Aside from the distortion in the division of GDP
into ‘capital’ and ‘labour’ and the factors mentioned above, the
imbalance is also reflected in the exponential development of
financial and stock markets over the past few years, in contrast
to the reverses in labour law, which no longer provides workers
with sufficient protection (for example in terms of contracts or
continuing training (24)). This reflects the fact that labour flex-
ibility (and increasing insecurity) is now becoming an adjust-
ment variable for businesses.

Development by social model

Market capitalisation/GDP

Worker protection

Average

Country

1990

Anglo-saxon model

UK, USA, CAN, AUS

Scandinavian model

FIN, DK, SV

Continental

FR, DE, AT, B, NL

Mediterranean model

IT, SP, EL

Japan

N.B.: There is no data available for the new Member States.

54

28

30

16

98

2003

119

85

59

57

70

1990

0,63

2,71

2,79

3,67

2,10

2003

0,73

1,89

2,30

2,61

1,84

Labour protection is measured by the ‘EPL version 1’ indicator
calculated (for the years 1990, 1998 and 2003) by the OECD. It
covers regulations on the protection of regular and temporary
employment. The closer the figure is to 0, the weaker the rules
on labour protection (EPL version 2 also includes information
on collective redundancies but does not go back as far as 1990).

5.3
It has now been several years since we entered into a
phase of severe wage restraints (25) as a result of increasing inter-
national competition and profit yardsticks. However, not all
socio-occupational
this
phenomenon.

concerned

categories

are

by

5.2.4
Although employee shareholder schemes have devel-
oped, they cannot redress the balance since, in terms of their
representativeness across the workforce, they are disproportio-
nately weighted towards the highest waged employees (generally
senior management).

5.2.5
Since economic systems are shaped by a particular
history (see point 3.3) it is quite understandable that the conver-
gence of corporate governance models (see points 3.1 and 3.2) has
not had a particularly visible impact in continental Europe in
the fight against unemployment, even though the
terms of
European social model
is based on a social market economy
which is premised on a partnership approach in the widest
sense, transcending the interests of shareholders alone.

Therefore, as in the United States (26), the European
5.3.1
Commission, Eurostat and the ECB should refine their statistics
by breaking them down into (at least) quintiles (27) so as to iden-
tify more clearly which categories of workers (very high wage
earners, very low wage earners and the groups in between) are
actually spurring increases in the overall wage bill and in
incomes more widely, so as to get a clearer picture of the risks
to price stability, in the knowledge that people in the various
different categories do not have the same propensity for
consumption (28) (c.f. also 4.8.4).

(24) European Working Conditions Observatory,

‘Fourth European

Working Conditions Survey’, 2007, p. 49.

(25) European Commission,

‘The contribution of labour cost develop-
ments to price stability and competitiveness adjustment in the Euro
Area’ in Quarterly Report on the Euro Area, volume 6 No 1, 2007.

(26) Cf. the three yearly ‘US Survey of Consumer Finances’.
(27) Distribution of wages ranked in ascending order and divided into five

equal parts, containing the same number of observations.

(28) Various recent studies have pointed in this direction, notably T. Piketty,
E. Saez: ‘The evolution of top incomes: a historical and international
perspective’, American Economic Review, 2006.

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6. R&D and innovation

6.1
As demonstrated by the 2000-2001 stock market crisis,
in view of institutional investors' propensity for mimicry when
it comes to investment decisions, there is still a possibility that
this may lead to over-investment in certain sectors and, simulta-
neously, under-investment in others.

The example of the Scandinavian countries shows that it
6.2
is possible to combine high social and technological perfor-
mance with a financial system that is based on banking rather
than stockmarkets.

6.3
As for private equities, they bring the risk-capital which
small enterprises need to launch new activities (start-up), an area
which has been in decline for several years (in 2003,
it
accounted for less than 10 % of their investments) (29). On the
other hand, private equities are increasingly focusing on buy-outs
(which accounted for over 60 % of their activities in 2003) (see
the chapter on ‘Leverage effects and systemic risk’). Moreover,
this trend is unlikely to stimulate investment, since, in view of
the risks involved in this activity, the priority for private equities
will be to reimburse and pay out to shareholders rather than to
invest for the long term.

Apart from R&D, so-called ‘tacit’ interactions (30) are an
6.4
increasingly important
factor for the competitiveness of all
firms. Tacit interactions involve exchanging information, formu-
lating opinions, coordinating and monitoring other activities
and exchanges (of goods, services and information) with other
workers, clients and suppliers and represent a combination of
various different forms of knowledge. Employees with these
kinds of skills now represent between 25 and 50 % of the total
labour force.

6.4.1
If they wish to become more competitive, companies
can no longer rely on standardising the work of their employees
who use tacit interactions or replacing them with machines. On
the contrary, they need to remove organisational barriers, create
a climate of trust, not only between employees but also between
employees and the firm itself, and enable them to take decisions
and communicate rapidly and easily. Corporate strength there-
fore lies in the collective knowledge specific to each particular
enterprise, which is built up over time.

6.4.2
Enterprises now have considerable room for manœuvre
when it comes to improving the productivity of workers
involved in tacit interactions, more so than for other categories
of employee. This is reflected in the wide disparity in perfor-
mance in sectors with a high proportion of jobs of this kind.
Sectoral social dialogue has a role to play here in creating
opportunities for firms to share their experiences, for example
in seminars and studies.

6.4.3
This emphasis on companies' specific areas of compe-
tence raises questions in relation to flexicurity, which envisages
a generic form of training enabling individuals to find employ-
ment in another firm, possibly in a different sector from the
one they are leaving.

7. Leverage effects and systemic risk

The buy-outs conducted by certain types of private equi-
7.1
ties are a speculative activity, based on indebtedness and a
gamble on being able to use the profits generated by the target
firm to reimburse borrowing and generate considerable gains
within five years.

7.2
In the countries of continental Europe, these operations
accounted for 0,6 % of GDP in 1995, and no less than 3 % in
2005. (31) (For the United Kingdom, the figures are 1 and 7 %
respectively). Buy-outs now represent the key activity (70 %) for
private equities, whilst the contribution of venture capital
is
declining (5 % in 2005).

sector

7.2.1
In the second half of 2006, alarm signals from the
central banks (ECB, Bank of England) and the rating agencies
(Standard and Poor's) multiplied in response to the ebullience of
raised
this
70 billion dollars more than the previous year. They noted a
systemic risk resulting from the sharp increase in firms' indebt-
edness together with a multiplication of junk bonds, which were
reaching worrying levels.

(USD 500 billion) which,

in 2005,

7.2.2
This is a dilemma for the monetary authorities, since
any rate increases aimed at slowing down this activity would
also spell the end for firms currently surviving due to excess
aggregate liquidity.

7.2.3
questions:

Buy-outs raise two other different but equally vital

— When operations are conducted by creating a holding
company, the directive on worker information and consulta-
tion does not apply. This results in lower worker participa-
tion for these employees, who number several hundred
thousand in Europe.

— Through leveraged buy-outs (LBOs),

investment funds are
entitled to be represented, on behalf of the company they
have acquired, on the management boards of major
European groups active in crucial sectors, such as the aero-
space industry. Given that some funds of US origin have
particularly close links with the US government and intelli-
gence services, the EU's technological, military and political
independence is at risk, in that a seat on the management
board gives access to confidential information (32).

(29) Deutsche Bank Research, ‘Private equity in Europe’, January 2005.
(30) The McKinsey Quarterly, ‘Competitive advantage from better interac-

tions’, 2006, number 2.

(31) Adrian Blundell-Wignall,

2007.

‘Private Equity Trends and Issues’, OECD,

(32) B. Carayon, ‘Patriotisme économique: de la guerre à la paix écono-

mique’, 2006, p. 119.

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15.1.2008

7.3
In general, there are a number of biases that artificially
boost the average return shown by private equity funds. Since
they are not bound by any reporting obligations, only the
highest performing private equities actually report their results,
and funds which disappear due to poor results are withdrawn
from the databases. A study by Citygroup shows that once these
factors are taken into account, the return calculated over a ten
year period is lower than for a mid-cap basket of shares. The
performance reported is even lower when management costs
and the costs of investing in these illiquid assets are also taken
into account (33).

7.4
Hedge funds are an industry worth over one and a half
thousand trillion US dollars. These funds are not new, but their
importance has grown over the past twenty years. This sector is
facing pressure from investors, such as pension funds,
to
become more transparent. In response to this pressure, a system
of credit rating and risk has been developed by various rating
agencies.

7.4.1
In view of their colossal financial clout, hedge funds in
their turn exert huge influence on financial, stock and money
markets. This question merits in-depth examination:

— The American, UK and European regulators have recently
reiterated their concern that investment banks might allow
hedge funds to increase their borrowing capacity by using
relatively illiquid collaterals, whose value might therefore fall
rapidly in the event of a financial crisis. They are also posing
questions in relation to the offshore vehicles which are spec-
ulating on the leverage effect and enabling American banks
to extend credits to hedge funds beyond legal limits.

— Hedge funds are also active in the ‘carry trade’ sector,

in
other words in operations where investors borrow in low
interest currencies (such as the yen or the Swiss franc) in

Brussels, 26 September 2007.

order to invest in currencies which pay higher interest rates
(Australian dollar). Increasing numbers of banks, including
the Bank for International Settlements (BIS), and economists
are convinced that these transactions, which are extremely
profitable for the hedge funds, are one of the factors contri-
buting to the weakness of the yen, which in January reached
its lowest level in relation to the US dollar in four years. A
sudden interest
in the Japanese currency (following a
recovery of the Japanese rate in response to the vigour of
the Japanese economy) could degenerate into a financial
crisis. Barclays Capital estimates that the essentially specula-
tive carry trade is now at its highest level since the Russian
crisis of 1998.

7.5
Derivatives enable banks to lay off exposure to risk by
converting it into complex financial products that are the object
of transactions. In so doing, the risk is dispersed but spread
across the economy, to players who may not be subject to
prudential rules.

7.5.1
Although the statistical probability of a major financial
crisis with systemic repercussions has diminished over time, a
crisis is still probable and the damage would be all the greater
than in the past, particularly in view of the closer links between
institutions and markets resulting from the financial innovations
which have enabled better integration of markets and merger
and acquisition operations
in the banking and insurance
sectors (34).

7.5.2
In view of a leverage effect which has increased over
the past few years and which, by definition, does not appear on
the balance sheet, it is impossible to estimate the amounts actu-
ally involved and the risk to which the economic system is
exposed.

The President

of the European Economic and Social Committee

Dimitris DIMITRIADIS

(33) House of Commons, Treasury Committee: ‘Private equity: tenth report

of session 2006-07’.

(34) Financial Times, 30 January 2007.

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APPENDIX

to the opinion of the European Economic and Social Committee

Rejected amendments

The following amendment, which received less than a quarter of the votes cast, was rejected during the discussion
(Rule 54(3) of the Rules of Procedure):

Points 5.1 and 5.1.1

Replace points 5.1 and 5.1.1 with the following point 5.1:

‘5.1 On the one hand, although the high dividends paid to shareholders have been justified in the past by the risk involved in
the operations in which they are investing their capital, the basis of this argument has been seriously undermined by the
developments which have taken place in recent years.

5.1.1 In fact, their liability is limited to their own contributions, and the negotiability of their asset — which is linked to the
growing liquidity of financial and stock markets resulting from their globalisation and the introduction of new technologies
— considerably reduces the level of risk they bear, whilst also giving them unequalled exit and diversification capacity.

5.1 Dividends paid to shareholders should be in accordance with companies' performance.’

Reason

Both points seem overly critical of the important role that shareholders play in the development of companies. Stating
that ‘their liability is limited to their own contributions’ appears to play down the risk posed by investing in the financial
and stock markets. Moreover, the recent crisis within these markets contradicts the statement that ‘the introduction of
new technologies considerably reduces the level of risk they bear’. Limiting dividends paid to shareholders could have a
negative impact on stock market trends.

Voting:

For: 65

Against: 70

Abstentions: 13