regional powers Banking on Consolidation

Germany has too many state-owned regional banks for them to be successful, but efforts to consolidate these banks have met opposition in the country’s state capitals.
Too many banks spoil the system.

Looking at Germany’s state-owned regional banks known as Landesbanken, it’s easy to wish for Adam Smith’s legendary invisible hand to show up.

The Scottish economist swore by the salubrious effect of the market. Applied to these regional state banks, the invisible hand should be shooing these institutions to consolidate.

German state-backed regional banks have contended with weak profits since well before the financial crisis. The current low interest rate environment is just one further burden.

The question is whether the financing of small- and mid-sized companies and real estate offered by the biggest state-backed banks – Landesbank Baden-Württemberg (LBBW), BayernLB, Landesbank Hessen-Thüringen (Helaba), NordLB and HSH Nordbank – provides enough possibility for profitable growth.

In the best of all worlds, it would probably make sense to merge them all into one single state-backed bank.

German financial regulators have noted a degree of herd instinct in how they operate, and they doubt that there are enough smaller regional firms to keep all these regional banks in business.

Already, voices are increasingly warning against loosening loan standards to gain business. Small- and mid-sized German companies known as the Mittelstand are in demand; the credit market is meager; tough competition is eating away at profit margins. But if you can’t make money in good times characterized by low provisions for possible loan losses, then when can you?

Landesbanken in Germany-01 map


It’s true regional state banks have done much to strengthen their capital reserves in recent years. They’ve reduced their balance sheet totals by 40 percent, or €725 billion ($778.9 billion) since the outbreak of the financial crisis.

With the liquidation of WestLB, a western state bank, in the aftermath of the financial crisis, one state bank has been eliminated. Financial assets backed by equity were reduced by €360 billion. This strengthening of the capital base contributed significantly to all state banks passing the European Central Bank’s stress test last year.

But that was just a limited view. Structural weaknesses have not been eliminated and costs remain as high as before.

In the last fiscal year, only Frankfurt-based Helaba and Stuttgart-based LBBW did well. Helaba boosted pretax earnings to a record level of €607 million while the LBBW reached €477 million and is proposing a dividend of €313 million – something other state-backed regional banks can only dream about. While Hamburg's NordLB doubled pretax earnings to €276 million, its target of earning €1 billion remains a distant goal.

BayernLB, Bavaria's state bank, is still groaning under its inherited liabilities. Write-offs of loans to its former Austrian subsidiary Hypo Alpe Adria and the former Hungarian subsidiary MKB ruined profits, with the bank posting losses of €1.3 billion last year.

It’s also fight for survival at HSH Nordbank, as the European Commission has not yet approved its business model. The beefed-up balance sheet guarantees from its majority owner – the states of Schleswig-Holstein and Hamburg – have triggered a new competition probe into unfair support. Additionally, the state-backed bank's struggles to meet high provision payments for the state guarantees has put the bank’s continued existence in question.

It won’t be political pressure that leads to an alliance or merger among regional state banks.

Seven years have passed since the financial crisis began.

There is no right time for a consolidation of the sector, a move which would be broadly supported by Germany’s community-focused savings banks known as Sparkassen. Yet the savings banks lack effective power because, as a rule, the shareholder states have the final word. Appeals for consolidation fall on deaf ears in the state capitals.

It also won’t be political pressure that leads to an alliance or merger among regional state banks. This group has to understand that better returns and lower cost can’t be achieved on their own. The regional development banks need to consolidate.

One sign of hope is Helaba.

With the collapse of WestLB, Helaba secured the collaborative business with North Rhine-Westphalia’s savings banks. The institution based in the state of Hesse is now the effective central bank for 40 percent of all savings banks in Germany.

The head of Helaba, Hans-Dieter Brenner, normally restrained in his actions, has already raised a hand to lay claim to a leadership role for Helaba in any potential merger of the state-backed banks.

It means that someone who enjoys a solid reputation in the financial sector, and not just with the savings bank, stands ready to take charge. This opportunity should not be missed.


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