Europe's Forever Unfinished Banking Union: Before the next downturn, there's little chance of a euro area system of deposit protection.

AuthorEngelen, Klaus C.

The Deutsche-Commerzbank merger fiasco sheds light on how weak Germany's private banking sector remains a decade after the financial crisis, in a national market dominated by highly competitive customer-oriented savings banks and cooperative banks. On April 25, 2019, both banks announced that their management boards had come to the conclusion that a German government-supported merger would "not provide sufficient added value." German finance minister Olaf Scholz and his deputy Jorg Kukies, a former co-head of Goldman Sachs' German and Austrian operations, had pushed the merger to create a banking champion large enough to meet the needs of the country's globally operating companies. Since the German government holds a 15 percent stake in Commerzbank, a takeover of Commerzbank by Deutsche Bank would have been a smooth way to get rid of the government's exposure.

What happens to Germany's leading private sector banks in terms of earnings and market capitalization also points to the broader troubling weakness of European banks. In the eurozone, banks in nineteen member states are supervised and regulated with a "Single Rulebook" under the first pillar of the so-called "Banking Union," under which the supervision of larger banks was largely transferred from the national level to the Single Supervisory Mechanism at the European Central Bank.

Banks in Europe are struggling. The present head of the ECB, Mario Draghi, never raised interest rates in his eight-year-term and kept them close to zero through penalty charges for banks keeping euro deposits. In major countries such as Italy, banks are struggling under high amounts of non-performing loans. Some national economies are slowing down, and years of Brexit troubles past and future cause added insecurities.

No wonder that in reaction to the April 10, 2019, ECB Governing Council's decision to keep rates unchanged, Hans-Walter Peters, the president of the Association of German Banks and partner at Berenberg Bank, expressed the anger and frustration of the struggling banking industry. "With its negative interest rates, the ECB is stuck in monetary crisis mode, especially since it indicated six weeks ago that the negative deposit rate would remain in force at least through 2020. It's unacceptable that the ECB is the only major central bank in the world not to have at least mitigated negative interest rates by granting an exemption threshold for excess liquidity. Last year this 'special tax' on surplus reserves cost European banks around [euro]7.5 billion. And every month the ECB puts off easing this burden adds a good [euro]600 million to the bill for banks in the eurozone." The Association of German Banks estimates that the major U.S. banks last year, by contrast, earned about [euro]40 billion on their Federal Reserve deposits.


"The land of the living dead: Fixing Europe's zombie banks," headlined The Economist on April 6, 2019. "Is there any more miserable spectacle in global business than that of Europe's lenders?" asked the magazine as Deutsche Bank's Christian Sewing and Commerzbank's Martin Zielke and their teams were still exploring the costs and benefits of a takeover of Commerzbank by Deutsche Bank.

"A decade after the crisis [the European banks] are stumbling around in a fog of bad performance, defeatism, and complacency," notes the magazine. "European bank shares have sunk by 22 percent in the past twelve months. Two Nordic lenders, Danske Bank and Swedbank, are embroiled in a giant money-laundering scandal. The industry makes a puny return on equity of 6.5 percent and investors think it's worth less than its liquidation value. Amazingly, many European banks and regulators are resigned to this state of affairs."

The Economist sees one reason for European banks' low profitability as "having been lamentably slow at cutting their costs." The magazine comes up with a rule of thumb that the cost-to-income ratios of efficient banks are below 50 percent, "yet almost three-quarters of European lenders have ratios above 60 percent" because of "redundant property, inefficient technology, and bloated executive perks."


As the international accounting firm EY points out in a recent survey, European banks are being left behind by their U.S. competitors. Last year, the ten largest U.S. banks earned two and one-half times more than their European competitors. As the ten largest European banking groups reported earning gains compared to...

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