Selling German bank stocks could have made this guy rich.

Photographer: Krisztian Bocsi/Bloomberg

Europe's Broken Banks Need the Urge to Merge

Mark Gilbert is a Bloomberg View columnist and writes editorials on economics, finance and politics. He was London bureau chief for Bloomberg News and is the author of “Complicit: How Greed and Collusion Made the Credit Crisis Unstoppable.”
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The recent flurry of excitement at the idea that Germany's Deutsche Bank and Commerzbank contemplated a merger reinforces the view that the European finance industry is ripe for consolidation. Banking leaders themselves talk about the need for mergers in an overbanked market, but no one among the bigger banks seems to want to go first. If something doesn't change soon, Europe won't have a banking industry worthy of the name.

The relentless collapse in bank share prices this year may speak to difficult market conditions, but they also suggest that Europe's banking model is broken, amid a deadly combination of negative interest rates, anemic economic growth and a lack of clarity about the future regulatory outlook (albeit in large part because European banks have fought every line of every proposed rule change).

The region's banks have lost almost a quarter of their value this year, according to the Stoxx 600 Banks index. As Germany has by far the least consolidated banking sector in the euro zone, it's no surprise that both Commerzbank and Deutsche Bank have done even worse:

Merger talk sparked a bit of a rally in the two German banks in recent days, even though the discussions, reported to have taken place over two weeks this summer, have been abandoned. With both banks embarking on major cost-cutting and restructuring projects, it may have been too early to talk of a merger. What's particularly interesting, though, is how favorably social media viewed the idea of Commerzbank -- often dubbed even by its own employees as Comedy Bank -- teaming up with its larger competitor:

Source: Bloomberg Twitter Sentiment Analysis

"We need more mergers, at a national level but also across national borders," Deutsche Bank Chief Executive Officer John Cryan said at a conference in Frankfurt on Wednesday. "This situation in Europe cannot go on. We need a change of course. We need a strategy for our financial sector."

Thus far, Cryan's strategy is to cut costs and jettison staff. The bank's executives are gathering this weekend to discuss how to accelerate the shrinkage program.

Cryan says he's not currently seeking a partner. But the halving of Deutsche Bank's market capitalization -- to 18 billion euros ($20 billion) from 38 billion euros last October -- suggests the board's current strategy isn't exactly finding favor with investors. Deutsche Bank plans to sell its Postbank unit, close offices in a number of countries and downsize its retail operations. It's not clear whether even that will be enough to revive investor confidence.

BaFin, the German regulator, suggests it's not interested in cajoling banks into teaming up with each other. "We at Bafin believe it's not a prime target of a supervisory authority to accelerate consolidation," Bafin President Felix Hufeld told Bloomberg News this week. "We don't do structural policies; that has to be done by the industry itself. Two weak institutions don't automatically make a strong one."

Ignoring for now the question of who, if not Bafin, prompted Deutsche Bank to even consider a tie-up with Commerzbank, that attitude seems short-sighted. While it's technically true that Bafin can't order the firms it oversees to seek combinations, the regulator can and should encourage discussions where mergers make sense and, most importantly, if uniting firms produces institutions that are both financially more robust and better able to meet the banking needs of society.

If the universal banking model can't survive in Europe -- and I still think the region needs at least a couple of banking champions able to fulfill that function -- then the shrinking banks need to at least have economies of scale in the functions they do choose to retain. That to me suggests blending banks together to create market leaders in particular fields.

If Switzerland's UBS and Credit Suisse, for example, both want to lead the pack in managing money while backing away from investment banking, maybe it makes sense to merge them, float the investment banking rump and let the remaining core firm try to dominate wealth management. Sure, one of the CEOs would lose his train set, and the wealthy would have one less choice about where to put their money. But Switzerland's annual gross domestic product of about $664 billion is dwarfed by UBS's total assets of more than $940 billion and Credit Suisse's $820 billion; the Swiss government may welcome the investment-banking business's departure to a jurisdiction better able to accommodate such enormous balance sheets.

Industry consolidation can't mean taking two or three too-big-to-fail institutions and creating even larger governance problems. Forcing banks to hold more capital is clearly one way to make finance safer although, as my Bloomberg View colleague Mark Whitehouse has pointed out, share buybacks and dividend payouts have undermined those efforts. What's needed are fewer, more focused banks that are better suited to the purpose of supporting industry and the economy.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

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