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People and MarketsCommentGC View

The perverse logic of Deutsche-Commerzbank


The potential merger of Deutsche Bank and Commerzbank has been repeatedly panned since it was first floated, with good reason. But at the level of the whole German banking system, there is a certain logic to it.

Two drunks propping each other up”. “Two wrongs don’t make a right”. You don’t make a strong bank out of two weak banks. That, in essence, is the case against a merger between Deutsche Bank and Commerzbank, made by FIG bankers and analysts every time the rumour rears its head.

It has none of the strategic logic of, say, a UniCredit-Société Générale tie-up (dominance in fast growing CEE; scale as a pan-European commercial bank), let alone a Santander-Standard Chartered (fusing a Lat Am trade and commercial bank with an Asia-focused one).

Instead, it takes two of Europe’s weakest banks and gives scale and dominance in one of Europe’s least profitable banking markets. Even “Deutschmerz” would lack pricing power in an environment where corporate lending is still dominated by the state-supported Landesbanks, and retail by the Sparkassen. Deutsche already tried buying a retail bank, taking on the banking arm of the postal service, Deutsche Postbank, through a tender in 2010 — prompting a cavalcade of restructuring expenses and a brief attempt to sell the unit, before finally completing the merger last year.

Both Deutsche and Commerz have suffered repeated bouts of market worry about asset quality and have been grinding through round after round of rescues and restructuring.

Commerzbank’s latest restructuring scheme was “Commerzbank 4.0”, while Deutsche has done four separate rounds of capital raising since the crisis. Units housing commercial real estate lending and equity distribution (Commerzbank) and US rates and equities (Deutsche) have been hived off or closed down, and the ambitions of both firms have been cut again and again.

Neither firm has succeeded in “cutting its way to greatness” and both trade at miserly price-to-book levels. Nonetheless, the banks are now talking officially about a merger, having deigned to confirm the worst-kept secret in FIG M&A over the weekend.

From an Anglo-Saxon, or indeed a French perspective, the project looks absurd. If the goal of the banking system is to create healthily profitable universal banks, present on high streets and lending to every kind of company from sole traders to blue-chips, this ain’t it, chief.

But that has never been the goal of the guardians of German banking. Instead, the state pervades banking in the country at every level. Funding costs are subsidised through the sanctity of the Pfandbrief market. Federal states own corporate banks and real estate lenders; the state also supports the savings banks.

If that wasn’t enough, Germany also has the largest and most developed system of development bank support in Europe. KfW is the cream of the European SSA crop, thanks to its explicit sovereign guarantee, and offers support to SME borrowing, corporate lending, infrastructure, construction and export financing. You can even get a student loan from it!

The states supplement this largesse with their own development institutions — the best known in the international capital markets is North Rhine-Westphalia’s NRW.Bank and Baden-Württemberg’s L-Bank, with a lending remit similar to KfW’s. There’s also Retenbank, which benefits from the same guarantee as KfW, dedicated to supporting farmers and agriculture.

When the chips are down, this level of state support became explicit. Wind-down agencies proliferated during the crisis, and state governments strained to keep their Landesbanks afloat. Blame for causing any problems was directed at the dastardly Americans who sold these innocent institutions lousy products — not the treasury teams that bought them, or the local politicians supposed to oversee the Landesbanks.

State support for banking in Germany is a feature, not a bug.

There are already discussions about the state support a merged Deutsche Bank and Commerzbank might require. The state owns 15% of Commerzbank, and discussions are under way about whether this could be transferred to KfW, and whether the federal development bank could subscribe for the capital increase Deutschemerz is likely to require.

That would, in effect, bring wholesale and investment banking into the arms of the state, as well. The likes of Siemens, Bayer and Volkswagen have no need of investment banks of any particular nationality to handle their affairs, let alone a “European champion” to ensure they don’t have to hire JP Morgan.

But from the point of view of the government in Berlin, a state-directed institution with a fully fledged European capital markets franchise completes the picture — government support for every level of financing activity, with a goal not to run as a profitable business in its own right, but to back the German economy, however that might be defined. Deutschmerz might make little commercial sense — but there’s still a logic to it, as part of the government-backed German banking landscape.