Year XXXVIII, Number 3, November 2025

Stefano Rossi 
Secretary of MFE Turin and member of national bureau of MFE.

Introduction: fragmentation as a structural bottleneck for European competitiveness
In recent decades, the European Union has faced mounting challenges stemming from globalization, technological transformation, and geopolitical shocks. Within this evolving context, the issue of Europe’s competitiveness has increasingly emerged as a systemic concern, cutting across key strategic domains such as innovation, energy, defense, and economic governance. A major structural weakness, however, continues to undermine the Union’s capacity to respond effectively: persistent fragmentation at the national, legislative, and policy levels.

This fragmentation significantly hinders the EU’s ability to act as a cohesive actor. It limits the effectiveness of common policies, reduces economies of scale, and obstructs the emergence of genuine European champions in strategic sectors. As emphasized in both the Letta Report on the future of the Single Market and the Draghi Report on competitiveness, internal fragmentation is now one of the primary constraints on Europe’s prosperity – as well as its ability to uphold its values and socio-economic model globally.

This paper adopts a systemic perspective to analyze the principal dimensions in which European fragmentation manifests, drawing on the insights of the Letta and Draghi reports. These include research and innovation, capital markets and industry, regulatory and fiscal frameworks, energy, and defense and security.
 
The paper will also explore reform proposals already on the table – such as the idea of a “28th regime”– and the opportunities afforded by a renewed application of the subsidiarity principle.

Fragmentation and innovation: an obstacle to the fifth freedom
The Letta Report puts forward a visionary extension of the four fundamental freedoms of the Single Market – free movement of people, goods, services, and capital – by proposing a “fifth freedom”: the free movement of knowledge, research, and innovation. This bold idea aims to promote a European innovation ecosystem that is no longer based on fragmented national initiatives, but instead grounded in an integrated, ambitious strategy capable of translating scientific excellence into economic growth and social progress across Europe.

However, the realization of this fifth freedom is currently hampered by fragmented funding mechanisms, governance models, and regulatory frameworks across Member States. This fragmentation is particularly evident in access to capital for start-ups and innovative enterprises. Europe suffers from a chronic weakness in the venture capital sector compared to the United States: European funds are typically smaller and more risk-averse, in large part because they operate in still largely national, undercapitalized markets.

To grasp the scope of the problem, consider a venture capital fund with a modest portfolio – say, €20 million. Such a fund is unlikely to allocate €10 million to a single investment, as this would undermine its ability to diversify risk. Under such constraints, many innovative European companies seek funding overseas, leading to a transfer of intellectual property and economic value outside the EU. This dynamic contributes to the so-called innovation gap between Europe and other major global economies.

Beyond financing, regulatory fragmentation also plays a detrimental role. The absence of a common framework in areas such as corporate, tax, and insolvency law complicates the cross-border expansion of innovative companies, forcing them to navigate diverging legal systems and cumbersome procedures. This translates into high compliance costs and a proliferation of legal and fiscal consultations – resources that could otherwise be allocated to productive investment.

In sum, legal and political fragmentation constitutes a systemic barrier to the development of an integrated European innovation ecosystem capable of supporting the continent-wide technological and ecological transition.

The capital market and the need for a common financial base
Capital markets represent another domain where fragmentation seriously undermines European competitiveness. The lack of a fully realized Capital Markets Union (CMU) limits the efficient allocation of financial resources across the EU and constrains the growth of firms, especially those with high innovation potential.
Although the CMU initiative was launched by the European Commission as early as 2015, progress has been modest and fragmented. As noted in the Draghi Report, the European financial system remains heavily dependent on loosely integrated national markets, where firms rely primarily on bank lending rather
 
than equity or venture capital. This model not only increases vulnerability to financial shocks but is also poorly suited to long-term, high-risk investments – such as those required for digital transformation and the green transition.

Fragmentation is also apparent in the banking sector. While the Banking Union has been formally initiated, it remains incomplete: there is still no common deposit insurance scheme, and genuine consolidation of banking systems across borders has yet to occur. Major banks continue to operate predominantly within national boundaries, and cross-border mergers are obstructed by both regulatory barriers and political reluctance.

A noteworthy example is the potential merger between Unicredit and Commerzbank, which could have served as a significant precedent toward the formation of pan-European banking institutions. However, as long as national governments treat their banking systems as strategic domestic assets, a genuinely integrated banking market will remain out of reach. Yet without a strong, continent-wide financial foundation, Europe cannot sustain the investment effort needed to restore and strengthen its global competitiveness.

The regulatory challenge: toward a “28th regime”?
The EU’s legal and regulatory environment continues to reflect a high degree of heterogeneity among Member States. In areas critical to business development – such as company law, commercial law, insolvency law, and taxation – significant divergences persist, complicating the ability of firms to operate across borders.

Member States retain primary competence over these areas, and attempts at harmonization – such as the idea of a European Civil Code – have been met with resistance from national legal traditions. Nonetheless, an intermediate path between mandatory harmonization and 

the status quo is conceivable. Both the Letta and Draghi reports have discussed the idea of introducing a “28th regime” – a voluntary set of common European rules on corporate, commercial, and insolvency matters, which companies could opt into as an alternative to national regimes.

This approach would resemble the U.S. model, where many companies – despite operating across multiple states – choose to incorporate in Delaware due to its business-friendly legal environment. Similarly, a European“28th regime” could offer a consistent, predictable regulatory framework designed to facilitate cross-border activity and reduce compliance costs.

Such a regime would not only foster the emergence of genuinely European firms but also provide a practical means of mitigating regulatory fragmentation without enforcing top- down unification. It would represent a dynamic application of the principle of subsidiarity – providing new tools to those who need them, without diminishing the autonomy of those content with their national frameworks.

Energy and security: the limits of political fragmentation
Political fragmentation also poses a major obstacle in areas such as energy and security, where collective action is essential to building common European public goods. In the energy sector, the crisis triggered by Russia’s invasion of Ukraine exposed Europe’s strategic vulnerabilities – particularly its heavy reliance on external suppliers and its lack of a unified energy policy.

Although an internal energy market exists in principle, Member States continue to negotiate their own energy contracts independently, leading to significant price disparities and weakening the Union’s collective bargaining power. The proposal – originally advanced by the Italian government and later endorsed by the Commission – for joint gas procurement marks an important step forward. But it must be embedded within a broader strategy aimed at constructing a true European Energy Union.

Similar logic applies to defense. Fragmentation among national industries, duplicated investments, and the absence of aggregated demand hinder the development of a common European defense base. Member States continue to fund their own projects in isolation, undermining potential synergies and hampering the coordination of R&D.

One possible solution, consistent with earlier proposals, is the creation of a “28th defense” regime: a set of shared European capabilities and instruments that Member States could voluntarily support.This would not involve merging national armed forces but rather creating an additional European pillar to support joint missions and enhance collective resilience.

Conclusion: overcome fragmentation to boost competitiveness
Europe’s future competitiveness will depend, to a large extent, on its capacity to overcome internal divisions and act more cohesively and effectively. Fragmentation – whether regulatory, political, or financial – has become a structural impediment that stifles innovation, increases costs, limits scale, and weakens Europe’s global influence.

Overcoming fragmentation does not necessarily require full unification. On the contrary, the principle of subsidiarity remains a cornerstone of European integration, and in some domains, diversity can enhance the system’s overall resilience. Nevertheless, in strategic sectors such as innovation, finance, energy, and defense, the construction of common tools and the removal of internal barriers have become urgent priorities.
Only by acting with greater unity and strategic foresight can Europe sustain its socio-economic model, safeguard its democratic values, and play a meaningful role on the global stage.