German regulator under fire

Germany's financial regulator is under fire for apparently ignoring warnings from 2005 that SachsenLB's Dublin subsidiary was juggling off-balance sheet sums worth 20 times the bank's entire capitalisation without adequate controls.

A highly-critical report of the Irish operation - which required a €17 billion bail-out last weekend - has emerged as the Saxon state government agreed to sell their state bank to LBBW, the state bank of Baden-Württemberg.

One of the bank's financial instruments or conduits - "Georges Quay" based in Dublin - breached basic credit regulations, according to the report prepared by KPMG accountants and quoted in Der Spiegel magazine today. An unnamed financial expert asked by the magazine to study the report described the Dublin operation as a "sloppily-run pig sty".

Another SachsenLB holding company, "Flexi Clip", was involved in financial transactions of "an incalculable risk", the report said, because they were too complex to run through the usual risk simulators as guidelines demand.

The report expresses doubts as to whether anyone in Dublin or SachsenLB's headquarters in Leipzig had a full overview of the highly complex transactions with a total value of over €30 billion.

The Dublin financial affairs were so complex that the KPMG consultants were eight months late submitting their report in April 2005.

Yesterday the shockwaves of the SachsenLB affair continued to resonate in Germany.

Saxon state premier Georg Milbradt announced after an emergency cabinet meeting in Dresden yesterday that SachsenLB would cease to exist as an independent bank by the end of the year, but not because of poor management.

"As a result of turbulence on the markets and the resulting pressure on the bank, a continuation without a partner was not promising," he said.

The final sale price of the bank could lie anywhere between €300,000 and €900,000, according to analysts who estimate the final cost of the bank's investment losses at around €600 million. Others have calculated the total cost to the bank of the "Georges Quay" conduit at €1.7 billion.

These losses are likely to fall to the German taxpayer: although Landesbank state guarantees ceased in 2005, nearly all of SachsenLB's Irish activities are covered by the state under a transitional arrangement. A shakeup of the entire Landesbank system is the likely consequence of the SachsenLB crisis, with only a handful of the 11 banks likely to survive.

Mr Jochen Sanio, head of German financial regulator BaFin, is also under pressure to explain his role in the affair.

The federal finance ministry in Berlin is likely to use the SachsenLB affair to reconstitute BaFin's management, replacing Mr Sanio with a five-headed commission.

A BaFin spokesman defended the agency's inaction after the KPMG report and in the last days, saying: "The bank was not threatened with closure, BaFin had no room to act."