Cheap money exposes serious weakness of German banks

FRANKFURT--European Central Bank money-printing has exposed the fault lines in Germany's banking system, forcing its sprawling network of lenders to rethink their business models and slash costs.


  Profits at one-time flagship banks of Europe's largest economy are near the bottom of the pile among their regional peers. Germany's nearly 2000 commercial, mutual and government-owned lenders have some of the thinnest margins in the region.
  For years, most German banks' strategy was based around winning new business by offering fee-free accounts and cash bonuses for switching lenders. They used the margins on their lending businesses to subsidise the cost of their retail operations and payment systems.
  When rates were higher that model covered up inefficiencies in their businesses. German banks' costs ate up around 73 percent of their earnings compared with 64 percent in the rest of the euro area in 2015, according to credit ratings agency Moody's. This cost-to-income ratio has been above the bloc's average for the last five years, the data show.
  But negative ECB interest rates have exposed a dependence on interest margins and throttled earnings needed to invest in improvements and make sure they have the required amount of capital to protect the bank on a rainy day. The pressure is expected to lead to mergers and closures over time but in the meantime, banks are trying new strategies.
  Earlier this month Bavarian bank Raiffeisen Gmund - one of more than 1,000 German co-operative lenders - broke a long-held taboo. It said it saw no alternative but to start charging wealthy clients to deposit their money, as it did not want to cut back services or merge with other lenders.
  "The only way we could really save on costs would be to reduce our presence in the market," the bank's head Josef Paul said.
  Postbank, one of the pioneers of free customer accounts, this month introduced a 3.90 euro monthly fee for the "vast majority" of its 5.3 million current account holders. Other banks are investing more in their digital offerings, but are still reluctant to give up their labour-intensive bricks-and-mortar branches.
  Michael Kemmer, head of German banking association BDB, said such steps makes sense but the number of lenders in the fragmented market means ones that take the lead on fees and charges may end up losing business without reaping the benefits. "The question is whether competition will allow it," he said.
  Online bank ING-Diba says it tends to see an uptick in regional demand for its free account when local rivals increase fees. "Fees can go up somewhat but you cannot completely offset the negative margin," ING Vice-Chairman Koos Timmermans told Reuters, adding that the German ING unit had no plans to scrap cost-free status for its accounts.
  The German government is aware of the banking sector's steady decline in earnings. But the decentralised political and economic structure, which gives a strong role to federal state governments, means Berlin is unable to force through wholesale reform of the financial sector.
  "We see it but what are we supposed to do?" asked a high-ranking government official, who spoke on condition of anonymity.
  Regional politicians enjoy the prestige and power to influence the local economy through public-sector savings banks and the landesbanks that provide them with wholesale funding. "Politicians have traditionally looked at the German banking system as a utility to serve retail, and more importantly, SME and corporate clients to support the German economy," said Katharina Barten, bank analyst at Moody's.

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