By Clare Hutchison
LONDON (Reuters) - European countries should change their tax rules to encourage investment in small businesses, the head of the London Stock Exchange said, as a sector crucial to the region's revival is starved of cash by banks.
The health of Europe's economy is closely tied to that of its 23 million small and medium-sized enterprises (SMEs), which account for the bulk of companies and provide most private-sector jobs.
Unlike large companies which can issue bonds to raise money, SMEs have traditionally relied on bank lending for finance. But loans have dried up as banks adjust to tighter capital rules, and when they do lend they often demand tough terms.
To counter this, London Stock Exchange Group (L:LSE) Chief Executive Xavier Rolet said European countries needed to shake up their tax regimes to encourage equity investors.
The former investment banker held up as an example the measures introduced by Britain to attract investors to growth stocks. He said the government's repealing of stamp duty - a financial transactions tax, or FTT - on such stocks had led to an explosion in retail demand for equities listed on the LSE's junior AIM market.
"An FTT is basically a tax on jobs," Rolet told the Reuters China Summit.
"If you tax risk capital to death ... you are going to have an environment where risk financing is going to go elsewhere."
Rolet said currently tax regulations encouraged small businesses to take out loans - with the associated collateral requirements and interest charges - rather than to seek investment, as interest on loans was tax deductible.
"Debt is tax deductible ... but risk capital is taxed at the corporate level, at the dividend level, at capital gains level."
"LIMITS AMBITION"
But without access to that kind of capital, startups will have little incentive to try and build the company, said Rolet, who has led the London bourse since 2009.
"After a few generations, it limits the natural ambition of entrepreneurs."
This month the European Commission published new rules to encourage more securitisation of assets such as car and consumer loans and small business loans as a source of financing for fledgling firms rather than relying too much on banks. The European Central Bank also started buying asset-back securities (ABS).
However Rolet said securitisation - where loans are pooled to underpin a security which pays out money from repayments of the loans - were not as suitable as a source of funding for SMEs as equity investment.
The varied nature of startups would make it difficult for investors in securitised loans to understand the risks involved, he said, so a securitised SME loan portfolio would have to reflect the entire range of SMEs.
Rolet also praised schemes such as the establishment of industry hubs like London's Tech City - home to an ever-growing population of startups - as a way of encouraging the creation and growth of small businesses, and said they were attracting the attention of politicians elsewhere.
"Awareness is starting to grow and appear in Brussels. The new (European) Commission is encouraging."
(Editing by Pravin Char)