Europe does not have a start-up funding shortage so much as a mispriced credit curve. European base rates sit below American ones, yet smaller European companies pay more for capital than their US peers. That is a spread problem, and it is the cleanest explanation yet for why Europe produces promising companies but almost no megacaps.
The evidence comes from a new study of listed firms by Bo Becker, Efraim Benmelech and Joao Monteiro. It finds that the cost of capital is higher for European firms than for comparable US firms. The gap widens as firm size falls. In the second half of the 2010s, the extra premium charged to below-median European companies over above-median ones grew, while the US size premium did not keep pace. Equity investors talk about European small caps as cheap. The financing data says they are cheap because the market charges them more to grow.
Quantity at the Average, Price at the Margin
The study only matters once it is read alongside the OECD comparison of EU and US start-up financing. That comparison found that the typical growth-oriented European firm raises roughly what its American counterpart raises. The divergence appears at the top of the distribution. Rising superstars, the companies on track to become unicorns, accumulate far more capital in the US.
Put the two findings together and a consistent picture emerges. Europe's capital markets fund the average company adequately. They fail the company trying to move from small to large. The OECD result describes the quantity of capital and the Becker, Benmelech and Monteiro result describes its price. A firm can obtain the same first cheque on either side of the Atlantic and still face a steeper bill for every round after it.
Steepness is what matters for compounding. A company that reinvests its cash flow grows at a rate set by the spread between its return on capital and its cost of capital. If a European firm earns the same return on a new project as a US rival but pays a higher hurdle, fewer projects clear. The firm grows more slowly, reaches scale later, and stays in the size bracket where capital is most expensive for longer. The size premium feeds on itself.
That matches the study's description of the outcome. Europe has fewer new listed companies. Its newly listed companies are worth less than newly listed US companies. Once listed, European companies often do not grow much. The authors find that the transatlantic gap at the top of the market cannot be explained by fundamentals. There is no trillion-dollar company in Europe, and the bottleneck sits earlier in the life cycle than the megacap league tables suggest.
Why Lower Rates Did Not Mean Cheaper Debt
The intuitive objection is that European debt should be cheaper, not dearer. Corporate loan pricing starts from the risk-free rate, and euro area benchmark yields have spent most of the past decade below US Treasuries. The US 10-year yield stood at 4.98% on November 10, with the 2-year at 4.73%. On the base-rate leg, American borrowers do not start with an advantage. Pablo Fernandez's annual survey also shows equity risk premia that look broadly similar on both sides of the Atlantic.
The resolution is that neither number is the price a small firm actually pays. Survey premia describe the market as a whole, which is dominated by large companies. Benchmark yields describe sovereign credit. A small European company borrows at the benchmark plus a spread, and the spread carries everything Europe's financial plumbing adds: bank funding costs, collateral requirements, country-level insolvency regimes, and the illiquidity of thin secondary markets.
This is where the credit lens departs from the equity conversation. Equity analysts compare European and US small-cap valuations and often see an opportunity. A credit analyst would ask a narrower question. Who funds the marginal euro of growth capex for a mid-sized company in Lyon or Milan, and what does that lender need to be paid? In the US the answer includes a deep high-yield bond market, a large private credit industry and a venture debt ecosystem. Each competes for the same borrower. In most of Europe the answer is still predominantly a relationship bank, often a domestic one, lending against assets a growth company may not yet have.
A bank-dominated system can price a mature manufacturer efficiently. It struggles to price a firm whose value lies in intangible assets and future cash flows, because those make poor collateral and are hard to recover in a default. The size premium in the study can be read as a measure of how much that mismatch costs.
The Late-2010s Widening
The timing of the widening deserves more attention than it has received. The size premium rose in the second half of the 2010s, which was the period of the most aggressive monetary easing in European history. Policy rates were negative. Long yields were compressed. If the problem were the general level of rates, that should have been the moment the gap closed.
It did not close, which points to transmission rather than level. One plausible contributor, which the study does not test directly, is the shape of the European Central Bank's asset purchases. The Corporate Sector Purchase Programme, launched in 2016, bought investment-grade, euro-denominated bonds issued by non-bank corporates. That universe is weighted towards large, rated issuers. Central bank buying compressed spreads for companies that could access the bond market and offered little direct relief to those that could not. Large firms gained a financing subsidy, small firms remained with their banks, and the gap between them widened.
That link is an inference about mechanism, not a finding of the paper. It fits the sequence, though. It also suggests a policy lesson that runs against the usual European debate. Cheaper money in aggregate does not reach small firms if the channel delivering it is reserved for the largest ones. Lower rates can widen the size premium even as they reduce the average cost of capital.
Where the Argument Is Weakest
The study has three limits, and any of them could narrow its relevance to the start-up question.
The first is scope. The research covers listed companies only. Extending the result to private start-ups is an extrapolation, a reasonable one but unverified. Private European companies may face a different price structure. Venture and growth equity funds raise money globally and price deals partly against US comparables, so the private-market discount could be smaller than the listed one.
The second is selection. European small caps on public markets may be an adversely selected group. Many of the strongest European growth companies list in New York, sell themselves to US acquirers, or never list at all. If the best candidates leave, the remaining pool will look riskier and will be priced accordingly. In that case the higher cost of capital would be partly a symptom of the drain rather than its cause. Separating those effects requires firm-level data on where companies chose to list, which the summary findings do not provide.
The third is measurement. An implied cost of capital for a small listed firm combines credit risk, equity risk and a liquidity premium. A European small cap that trades thinly on a national exchange will carry a liquidity discount that has little to do with its underlying credit quality. If most of the size premium comes from liquidity rather than from lending terms, the remedy lies in market structure, exchange consolidation and investor access, not in bank regulation or credit supply.
The credit reading survives all three objections, though in a weaker form. Even if selection and liquidity explain part of the premium, the widening during a period of extraordinary monetary easing still needs explaining. The OECD finding that average funding is comparable while superstar funding is not points to a constraint that tightens with ambition. A pure liquidity story would not produce that pattern.
What the Equity Market Has Not Priced
Equity investors treat the valuation discount on European small caps as a reversion opportunity. The financing evidence argues that much of the discount is structural, because it reflects a higher hurdle rate that will not fall unless the funding channel changes. A firm cannot grow out of a cost-of-capital disadvantage when that disadvantage slows the growth it would need.
The comparison is a useful check. If European small caps continue to lag US small caps over a period when European policy rates are not the binding constraint, the gap is more likely to be a funding-channel problem than a cyclical one. Benchmark rates set the floor. The premium comes from what sits on top of it.
That points the policy discussion in Europe and the UK in a specific direction. The original column argued that Europe should discuss how to make capital cheaper for small companies. The evidence narrows that further. The aim is to make capital cheaper at the margin of scale, in the size bracket where the premium is steepest. That calls for deeper non-bank credit, a functioning securitisation market for loans to smaller firms, and pension and insurance capital that can hold illiquid growth assets. A general rate cut will not do it. Nor will a central bank programme that buys only the paper of firms that are already large.
The condition that would confirm the read is observable. If the size premium in European cost of capital begins to narrow, and that narrowing coincides with growth in non-bank lending to mid-sized companies rather than with falling benchmark yields, the credit channel is the binding constraint and it is starting to loosen. If the premium persists while capital markets integration advances on paper, the selection and liquidity explanations gain weight, and Europe's start-up challenge lies more in where its best companies choose to list than in what they pay to borrow.
