Germany Moves to Mitigate Banking Risk With Election-Year Laws

German Finance Minister Wolfgang Schaeuble introduced election-year legislation to parliament to separate some parts of investment from retail banking, saying the government is determined to mitigate financial risk.

“The financial system needs to be kept stable by ensuring that misallocated investments in some areas don’t put the whole system at risk,” Schaeuble told lower-house lawmakers in Berlin today, as he introduced the package of three financial bills. The government aims to pass the bills before the summer recess.

The legislation aims to protects Germany’s universal banking system while complying with the European Commission’s drive to find common rules curbing business that carries the threat of destabilizing the financial system. Schaeuble said last month that as many as 12 banks based in Germany may be affected by the moves to force some large retail banks to spin off proprietary trading.

Chancellor Angela Merkel’s Christian Democrats, facing federal elections on Sept. 22, are sparring with the opposition Social Democrats over regulating financial markets after the coalition curbed manager pay, banned some short-selling and made banks pay into a resolution fund.

In an interview with the Chemnitzer Freie Presse newspaper published March 13, Merkel said she backs European Union efforts to limit compensation in the financial industry and to let shareholders decide on pay for corporate officers, saying “lack of moderation” doesn’t jibe with a “free and social” country.

Manager Pay

Sixty-seven percent of 1,000 respondents to an N24-Emnid poll released yesterday said they wanted manager pay including executives in other industries than finance to be set by law as proposed by Merkel’s Social Democratic challenger, Peer Steinbrueck. Thirty-three percent said that pay should be set by shareholders and board members, N24 television said in an e-mailed statement. The poll was conducted March 13. No margin of error was given.

A group led by Bank of Finland Governor Erkki Liikanen is studying Europe-wide proposals to force large lenders to spin off some trading activities into separately capitalized units in a bid to curb risk and prevent banks being too-big-to-fail. The EU commission has said it will present draft bank-structure rules in September.

Schaeuble’s proposals stop short of splitting investment business from retail banking as suggested by the Liikanen group. The banks affected by the German plan may exit the relevant businesses rather than incur the cost of capitalizing them separately as they “make relatively small contributions to earnings,” Fitch Ratings said last month.

Complementing Liikanen

Schaeuble said the German legislation aims to complement the Liikanen proposals.

“We need to find a way to separate investment banking and normal bank business in such a way that risks from one area don’t spill into the other,” he said.

The German legislation forces deposit banks to hive-off lending and guarantees to hedge funds as well as high-frequency trading when associated activities exceed 100 billion euros, or 20 percent of the balance sheet. Deutsche Bank AG, Landesbank Baden-Wuerttemberg and Commerzbank AG were named by the Liikanen group as being affected.

Under the bill, top managers at banks face prison sentences of up to five years or a penalty of as much as 11 million euros if they intentionally violate rules and the banks that employ them get into trouble as a result.

The package of German laws would go into effect in 2014 and banks would have until July 2015 to comply.

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