How Germany’s Little Savings Banks Threaten Big Financial Woes

(Bloomberg Businessweek) -- Regensburg has all the attributes typical of historic German cities: a 12th century bridge across the Danube, a 500-year-old bratwurst stand, a palace with a real-life princess—and a mayor who serves on the board of the local savings bank.

And as happens periodically in places across Germany, the relationship between the bank and City Hall stands at the center of a controversy. Mayor Joachim Wolbergs has been suspended pending the outcome of a trial for alleged corruption related in part to his side job as chairman of the bank’s supervisory board. The accusations involve campaign donations from a real estate developer, rights to coveted land, and a low-interest, €4.5 million ($5.2 million) loan approved while the mayor headed the board.

The trial, which started on Sept. 24, highlights what many economists say are overly cozy ties between politicians and Germany’s 385 public-sector savings banks, known as Sparkassen. Those close links are at the heart of concerns about hidden risks to the country’s financial system, which has shown signs of strain as giants Deutsche Bank AG and Commerzbank AG struggle with low profitability and strategic missteps. “The largest banking system in Germany is predominantly controlled and monitored by people whose financial expertise is questionable,” says Ralf Jasny, a business professor at the Frankfurt University of Applied Sciences.

Each Sparkasse is nominally independent, and they mostly lack the “too-big-to-fail” heft of the leading Frankfurt banks, falling below the radar of the European Central Bank and its oversight of top financial institutions. While a wave of mergers has reduced the number of Sparkassen by almost half since the 1990s, the system remains fragmented. The biggest is the Hamburg affiliate, with 130 offices, and several have just a single branch. But together they control €1.2 trillion in assets, which would make them the country’s second-biggest lender, after Deutsche Bank. The logo they share—a stylized red “S”—is present in just about every neighborhood in Germany, they backstop one another in case of financial trouble, and they’re barred from encroaching on one another’s territory. “A rapid rise in interest rates could cause problems for all of them simultaneously,” says Isabel Schnabel, finance professor at the University of Bonn and a member of Chancellor Angela Merkel’s council of economic advisers. “We could get to a point where there are too many to fail.”

Flush with deposits from Germany’s famously thrifty citizenry, the Sparkassen are a dominant force in retail banking, especially in rural areas. About 60 percent of the population has a relationship with a Sparkasse, according to ratings company DBRS Ltd., and on the surface, the banks look like paragons of prudence. They face little pressure to maximize profits, and what money they do make gets reinvested or goes into public coffers. Their local focus means they prefer conservative, low-margin loans to riskier financial instruments, and no Sparkasse has defaulted since the 1970s, when a shared safety net was set up. But critics point to the example of Germany’s Landesbanken, a network of wholesale banks that invest money from the Sparkassen on international markets. After disastrous bets on U.S. subprime loans and other blunders a decade ago, those institutions had to be bailed out, costing taxpayers more than €30 billion.

In March, Fitch Ratings Inc. cautioned that most of the Sparkassen’s long-term assets are mortgages and other instruments that lock in today’s low rates, but their deposits tend to be short-term savings accounts that would have to be repriced more quickly if rates were to rise. That would hit Sparkassen harder than bigger banks, which have more diverse portfolios. And their dependence on local business gives them nowhere to turn if Germany’s economy falters. “A slump could lead to a chain reaction of savings bank insolvencies, which would be difficult or impossible for the Sparkasse system to absorb,” says Reint Gropp, president of the Halle Institute for Economic Research.

France, Italy, and Austria once had comparable networks of local savings banks, but they’ve sought to reduce conflicts of interest and shore up the institutions by encouraging them to merge and bring in outside investors. The risks were exposed in Spain after the 2008 debt crisis, when many of the Cajas—state-linked savings banks—had to be taken over by the government or forced to merge to stabilize the country’s financial system. “There is a reason why so many other EU countries that had similar systems have reformed them,” says Nicolas Véron, a senior fellow at Bruegel, an economic think tank in Brussels. “Germany is basically the last one that hasn’t.”

Close political connections give the banks powerful allies, creating concerns about the financial dependence of political leaders on institutions they’re supposed to supervise. Bruegel found that Sparkassen board positions can account for more than 10 percent of some politicians’ income. And loan quality tends to deteriorate in election years as politicians boost lending in pursuit of votes, according to the Halle Institute. Meanwhile, more aggressive purchases of state bonds after elections suggest the banks seek to curry favor with newly elected officials, ECB researchers say. As a result of these ties, the Sparkassen cast a long shadow in European banking, with Merkel’s government adopting friendly stances such as rejecting Europe-wide deposit insurance and opposing regulations that would hurt the lenders.

Despite periodic scandals like the one in Regensburg, there’s no widespread call to overhaul the Sparkassen. The allegations against the popular Social Democratic mayor sent shock waves through the boardrooms and cobblestone streets of Regensburg as the scandal, which also involved financing the local professional soccer club, touched just about everyone. But after initial calls for Wolbergs’s resignation, officials have taken a milder tone. The court in March reduced charges from bribery to abuse of office and isn’t actively questioning the validity of the loan to the developer. Wolbergs, who declined to comment, is fighting the charges and has said he’ll run for reelection in 2020.

Defenders of the system point to the banks’ stability in past crises, their commitment to community development, and a deep well of local expertise that the likes of Deutsche Bank and Commerzbank can’t match. Unlike their bigger brethren, they’re widely seen as the good guys of banking, serving the needs of average Germans. “There’s no reason to question the structure of the Sparkassen,” says Jürgen Huber, a deputy mayor in Regensburg from the Green Party. “They’re part of the community. That’s a distinct advantage over big banks.”

--With assistance from Karin Matussek and Chris Reiter.

To contact the editor responsible for this story: David Rocks at

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