Germany's looming S&L crisis

By: Wolfgang Münchau

German savings banks are the backbone of Germany's unique economic system. If they go pop, so will Ludwig Erhard's social market economy. It is the savings banks, and the mutual banks, who provide German consensus-driven industry with preferential finance, which would not be available on the same terms on the open market. If you want to know about a country's economic system, the best advice is always to "follow the money". If you follow the money in Germany, you invariably end with a Sparkasse, a Landesbank, a Genossenschaftsbank, or with a Kreditanstalt fur Wiederaufbau, and also with politicians or ex-politicians who are running these institutions.

 

So it was with some surprise when we read in Frankfurter Allgemeine that the Bundesbank, which shares the responsibility for banking supervision, wrote a letter to the board of a mutual bank, in which it expressed concern about the sector's structural profitability. The slow return of the yield curve to a more normal - upward sloping - shape will not the change the fundamental problem that the state banks' most important source of income, the gap between interest received and interest charged, is becoming too small. The Bundesbank is concerned that this hugely important sector is losing its economic basis for good. Since these institutions are notoriously incompetent at financial innovation, and notoriously reluctant to restructure, there will be a significant amount of trouble ahead.

 

I have no doubt that Germany's state and mutual banking sector, which accounts for about three quarters of the German banking market, will eventually break down (or up) - and this may create a situation of severe financial distress if this process is mismanaged. The Bundesbank's warning is accurate; it's just not clear what can be done about this. Of course, we can keep the foreign competition out, with new low-cost internet banks offering super-cheap loans at rates against which the savings and mutual sector cannot compete. But this is not really an option in an integrated European financial market. In fact, European financial integration is precisely the reason why German exceptionalism in banking is not sustainable in the long run.

 

This all might lead us to a savings and loan crisis, as Sparkassen are no longer able to survive in a much more competitive world. In a benign scenario, the public sector merely gets replaced by private banks. In a less benign scenario, banks go bankrupt, and this requires public bailouts. The public interest case for such a bailout is not going to be easy to make, and more and more of these institutions will be allowed to go under. Since Germany's Mittelstand - medium-sized family-owned industrial companies, the backbone of the German economy - is financially dependent on the banking sector to maintain an absurdly low degree of equity, a savings and loan crisis could easily become a Mittelstand-crisis, and possibly an economic crisis. It would have been so much better, for the German government to support the EU Commission's current campaign against the Sparkassen, outlaw the non-competition principle, which keeps this industry so hopelessly provincial, and do everything to encourage a restructuring of the sector.

 

Instead we have a situation of incredible complacency. The Sparkassen barely keep their heads above water, and to the extent that they do this is mostly the consequence of the present economic recovery. Come the next downturn, we are going to see the first big test. More will follow.  

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