Plan to Avoid More Bailouts: EU Considers Splitting Up Major Banks

Published on Spiegel Online International, by Martin Hesse and Christoph Pauly, September 17, 2012 (Photo-Gallery) – (Translated from the German by Christopher Sultan).

EU Commissioner Michel Barnier has asked experts to examine the possibility of splitting up major European banks to avoid future bailouts at taxpayers’ expense. But even less radical intervention in the banking sector could have drastic consequences for the industry, and its powerful lobby is resisting any such change … //

… Growing Support for Radical Bank Reform:

In Europe, breaking up the banks was long seen as more of a subject for armchair economists than a real prospect. But in recent weeks, even corporate leaders like Nikolaus von Bomhard, head of the insurance giant Munich Re, and Klaus Engel, CEO of chemical manufacturer Evonik Industries, have conceded that they would like to see a separation between high-risk investment banking and other bank operations.

Despite numerous reforms in the financial sector, there is one problem regulators have yet to solve: Many banks are so big that no country can afford to allow them to fail. This is why the government bailed out a number of financial companies starting in 2008, a move that allowed major banks like Deutsche Bank to grow even larger.

“Taking a more-of-the-same approach in the treatment of major banks is not an option”, warns Daniel Zimmer, head of the German Monopolies Commission. “First of all, in contrast to 2008, many countries no longer have the resources to bail out banks. Second, taxpayers are no longer willing to foot the bill for the financial industry’s mistakes.”

But what can be done? Zimmer notes that Germany has already taken steps in the right direction. Under the new German restructuring law, when a bank is in trouble the most critical parts of the institution can be transferred to a bridge bank, allowing the remainder to be liquidated. In such cases, the shareholders and most of the bank’s creditors would not be compensated. A fund made up of contributions from banks would cover restructuring costs.

But there is a problem with the new system. “In a worst-case scenario, a bank has to be split up into vital and other parts within a single weekend,” says Zimmer. “This is only possible if there is already a clear separation between the two parts beforehand.” This is why Zimmer believes it makes sense to establish the dividing line in advance, in a manner similar to what Britain’s Vickers Commission envisions.

Bank executives point out that it was precisely specialized banks like Lehman Brothers and Hypo Real Estate that failed in 2008 and threatened the financial system, whereas universal banks are more stable.

Banks Could Submit Liquidation Plans in Case of Crises: … //

… Drastic Consequences:

Dirk Bliesener, a partner in the law firm of Hengeler Mueller, goes even further. “If you want a structural delimitation of certain parts of investment banking, it isn’t enough to merely disconnect refinancing from the rest of the bank. The two parts would also have to be separated legally.” But whether this truly suffices to prevent an imbalance is heavily dependent on individual circumstances, Bliesener adds.

The most important thing is to isolate the trading business, in which banks engage in high-risk activities. But Christoph Kaserer, a banking expert at the Technical University of Munich, also advocates separating payment transactions from the lending business, so as to ensure that when a credit bank runs into trouble, millions of companies and households can continue to process payments. Financial companies could continue to service customers with loans and capital market transactions if all areas were bundled under the umbrella of a holding company, says Kaserer.

The consequences of banks having to corral their investment banking operations would be drastic. With the elimination of the implicit government guarantee and cross-subsidization through deposit customers, funding this business could become too costly to be worthwhile for some providers.

The result would be a long overdue market adjustment. “A separated banking system would be good for competition,” says monopoly expert Zimmer.

Compromise Taking Shape:

The banks are resisting the plans being hatched by the Liikanen group, and they have powerful advocates. In a Sept. 6 letter to Barnier, major French corporations GDF Suez and Lafarge strongly oppose the revolution in the European banking industry. They write that companies need large, efficient financial groups with international networks that are at home in all global markets. “These goals are more likely to be achieved if the model of a diversified universal bank is preserved,” reads the letter, which was also sent to Liikanen.

Senior European Commission officials are already signaling that Liikanen will not propose a radical solution such as a breakup of large banks. “A compromise is taking shape that amounts to the isolation of investment banking within the companies,” say sources in Brussels.
At last Saturday’s meeting of European Union finance ministers in Cyprus, Liikanen, together with Barnier, described the current status of discussions within his group. But according to one member of the commission, the group has not reached a consensus yet and is still deliberating.

Meanwhile, Jain and Fitschen continue to march steadfastly in the opposite direction. Last week, they announced their intention to further strengthen consolidation among all segments of the bank.
(full text).


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