For the investment banking industry, the opening years of the new millennium are going to be the European decade.

The industry is enjoying a period of phenomenal growth as continental European companies restructure and the equity culture takes root within the eurozone. Modern-day investment banking may be an American invention and the dominant firms mostly hail from there. But the growth market for the investment bankers' skills is on this side of the Atlantic. Within a few years, Europe looks certain to overtake the US as the most important market in the world. In absolute terms the US is still some way ahead, and remains hugely profitable. But compared with Europe, the US is a much more mature market. Last year, for instance, M&A activity in the US was only up by a modest 5% to $1,720bn (E1,703bn). This was still well ahead of Europe, which saw $1,213bn of deals in 1999, according to Thomson Financial Securities Data. But the remarkable thing about Europe is that activity was more than double the previous year. In the third quarter alone, it even exceeded the US. It is in Europe that the landmark deals are now happening. The largest ever takeover was launched in Europe last year – Vodafone's E131bn bid for Mannesmann. It is also, of course, the biggest hostile deal ever. A measure of how rapidly expectations are changing in Europe is that less than a year ago everyone was gasping at the size of Olivetti's E60bn hostile bid for Telecom Italia. The European merger boom is still in its early stages as companies focus down on their core businesses and seek to achieve global scale. Germany's decision to remove the crippling capital gains, which has prevented German companies unwinding the cosy cross-shareholdings that insulate them, will have a dramatic effect. Germany has already overtaken France as the second largest European M&A market after the UK. When it comes to new securities underwriting, the US is once again still comfortably ahead of Europe, but this is due to the much larger US bond markets. In equity capital markets alone, Europe overtook the US last year, thanks to the combination of several huge privatisations, such as the giant E16.5bn Enel IPO in Italy and Deutsche Telekom 2, and the growing number of issues by corporates. This year the European equity markets should see another bumper crop of issues. So what is there that could disturb this rosy outlook for the industry? A tumble in the stock markets, precipitated perhaps by the puncturing of the current technology bubble, could put a damper on the ambitious European expansion plans being laid by investment banks. But it will take more than a market correction to undermine the long-term growth prospects for the securities business in Europe. The biggest challenges for the industry come from a different quarter. One is the explosion in pay and bonuses taking place. Over the past year, packages for top investment bankers have soared by about two-fifths because of the shortage of top talent and guarantees have been stretching out from one to sometimes three years. Even fund managers now command Hollywood-sized packages witness the price Allianz is paying to lock in the star bond fund manager at Pimco Advisors, William Gross. On top of his regular salary, he has been promised $39.8m a year in stock and cash for five years.The other big problem for the top players in the industry such as Goldman Sachs and Morgan Stanley is conflicts of interest. The trend towards industry specialisation means that the successful players are increasingly finding that acting for one client can upset another client. Sometimes they find themselves in competition with clients and sometimes they end up acting against them. At least it is a problem borne of success. But managing these conflicts, and, more important, convincing clients that their interests are being protected, is becoming more and more difficult for the top investment banks.