THE GERMAN cabinet has agreed to a “bad bank” model it hopes will build trust among banks and boost liquidity in the economy while forcing reform of heavily indebted public banks.
Cabinet measures approved yesterday will, after passing parliament, give banks the opportunity to store worthless securities, so-called toxic assets, in individual off-balance sheet holding companies.
Once there, these toxic assets can then be exchanged, for an annual fee, for state-guaranteed bonds issued by Germany’s bank rescue fund Soffin.
Five months before Germany’s general election, the government was at pains yesterday to present the deal as a necessary evil that wouldn’t hit the taxpayer.
“Instead of highly volatile bonds backed with a high level of equity, banks can exchange them for state-guaranteed bonds without the need for equity,” said finance minister Peer Steinbrück. “All of this is combined with a series of conditions to minimise the cost to the state and taxpayer.”
The conditions include a 10 per cent writedown of current value with an obligation on the banks to absorb any further shortfalls in asset value revealed by external examination. In addition, any assets found to be loss-making at the end of its life will be financed by dividends diverted from the bank’s own shareholders.
Mr Steinbrück said the current bank rescue fund balance of €260 billion will be more than sufficient to cover the estimated €190 billion worth of toxic assets on German banks’ books.
Aside from the troubled property lender Hypo Real Estate (HRE) – in the process of nationalisation – the scheme will largely benefit Germany’s state-owned public banks or Landesbanks.
These banks began life as regional lenders to small and medium-sized businesses but have been searching for a new business model since the EU stripped them of state guarantees which allowed them to borrow money at better rates than commercial rivals.
These public banks expanded rapidly abroad and, in search of fresh profits, over-extended themselves in the opaque world of sub-prime loans, off-balance-sheet instruments and asset-backed commercial papers.
Regional state premiers who own the banks have so far been unwilling to allow reform that would cost influence and jobs. But with toxic assets worth an estimated €500 billion, they may have to agree mergers.
Banking analysts warned that the reform will have to be forced through by Berlin. “Something drastic has to happen in the Landesbank sector,” said Manfred Jakob, analyst with SEB in Frankfurt. “The sector has been operating for years without any real controls.”
