Commentary: Don't Bank On These Mergers To Fix Europe's Banks

A rush of bank mergers has bankers all over Europe biting their nails. The half-dozen deals announced since mid-May are a sign that consolidation is accelerating in some of the most overbanked markets. In Germany, the Landesbanken, or regional banks, in Berlin and Lower Saxony are joining forces to create an institution with assets of $334 billion--roughly the size of Commerzbank, Germany's No.3. In Italy, the biggest savings bank is talking merger with Ambroveneto, a leading bank in the country's rich Northeast. Other bank mergers are being cooked up in Belgium and the Netherlands.

But as often happens in Europe, the trend isn't going far enough. What continental European banking needs is real cost-cutting--shuttering of excess branches and job cuts. That means governments will have to become far more accepting of restructuring and layoffs.

EURO FACTOR. Germany gets the prize for banking overkill. It has about one branch per 1,600 people, twice as many per capita as in laissez-faire Britain. Italian, Belgian, and French banks aren't much more efficient. And if Europe manages to adopt a single currency by late next year, a high cost base could become dangerous. The new euro will make foreign exchange operations obsolete, and the prospect of a huge, single market will lure more rivals from the U.S. and Britain. "The advent of the euro is going to accelerate competition in all the [participating] countries," says Daniel Bouton, managing director at France's Societe Generale.

The latest deals mainly avoid the hard job of boosting bank competitiveness. That's because too many of them involve mergers of operations with no overlapping branches, avoiding the need for closures. Germany's big Landesbank deal is mainly aimed at uniting computer and other back-office functions of two banks in different regions. In Italy, Milan's Cariplo and Ambroveneto say they're mulling a joint holding company while keeping bank operations separate.

Back-office savings from such deals can be significant: According to Neil D. Crowder, a Goldman Sachs & Co. analyst in London, those efficiencies account for about half the savings in a typical bank merger. But such moves are only a first step toward radical cost-cutting. Continental bankers need to squeeze harder because banking is increasingly a global game. From Citicorp to Fidelity Investments to Barclays, outsiders are muscling in on the Europeans' lending business, bringing margins down.

Banks in some European countries, including Scandinavia and the Netherlands, have responded with deep cost cuts. Since ABN AMRO Bank was formed five years ago from the merger of the two biggest Dutch banks, it has pared costs dramatically, even in the face of restrictive labor laws. Branches are down by 24%, to 1,011, and employment in the Netherlands is down by 16%, or 6,000 jobs. Partly as a result, profits have soared. British banks also have trimmed tons of fat since deregulation in 1986 turned the market into a competitive free-for-all. That's one reason Barclays Bank PLC's return on equity is at 23%, three times higher than Germany's No.1 Deutsche Bank.

But most Continental governments still can't stomach the wholesale restructuring of a major bank or the resulting layoffs. The German market is especially rigid because it is dominated by credit unions and savings banks, controlled and often owned by local and regional governments. Private institutions such as Deutsche Bank, Dresdner Bank, and Commerzbank account for only about 13% of the market. "To get real consolidation in Germany, you'd have to have someone like Deutsche Bank take over a whole raft of savings banks," says Peter Thorne, an analyst with Paribas. "That's not even being talked about."

Governments need to cede more political and ownership control of banking--and get over their squeamishness about job loss. The loosening of banking laws in places like Italy is a good step forward. So is the planned privatization of several banks in France, if the conservative government there holds on to power. Banks such as ABN AMRO have shown that cutbacks can be made gradually, without the American-style job-slashing European governments rail against. For now, the bankers are nervously waiting. When more governments ease up a bit, Europe's real merger boom in banking will begin.