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More evidence of German banking worries

More questions about the stability and probity of German banking this morning following on from the rumour of the €1 Trillion hole in German banks.

This from the 21st March  Wall Street Journal,

Deutsche Bank AG changed the legal structure of its huge U.S. subsidiary to shield it from new regulations that would have required the German bank to pump new capital into the U.S. arm.

The subsidiary is called Taunus Corp. It is the 8th largest Bank holding company in the US. Being listed not just as a bank but a Bank Holding Corp. has a very special perk, it allows the Holding Company to borrow from the Fed in times of crisis. Which Deutsche did.

Remember, that the only reason Goldman Sachs still exists, is that as the collapse of Lehmans engulfed Wall Street, Goldman was allowed to become a Bank Holding Company. It had never been one till that moment. Till then Goldman had been a Broker Dealer. And it was not alone in suddenly desiring to become a Bank Holding Company. As this article by Edward Harrison points out so did GE Capital hitherto a hedge fund, American Express (a credit card company),  GMAC (GM’s car financing arm) and Genworth Financial (an insurance company) all suddenly thought they should be come Bank Holding Companies. Sinners, all of them, they all changed their faith to gain salvation.

But salvation has a price. Being a Bank Holding Corp brings certain obligations and oversight which being a not-so-essential financial organization doesn’t. Quite reasonably, being allowed to suckle up to the Fed’s teet, comes with the obligation that the Fed get’s to tell you how much Capital you have to hold against your loans and liabilities – at least those within the Fed’s, jurisdiction. You can see why Goldman, for example, had never previously wanted to be a Bank Holding Corp.

Back to Deutsche and Taunus – they were happy to take the money in teh crisis but they now don’t want to pay the cost of obeying the rules.

This is a long running saga. In November of 2011 Bloomberg ran a story by the former cheif economist of the IMF Simon Johnson which pointed out that

The German bank, however, is thinly capitalized. Its total equity at the end of the third quarter was only 51.9 billion euros, implying a leverage ratio (total assets divided by equity) of almost 44.

There is precisely nothing prudent or safe about leverage of 44 to 1. It is considerably worse than the worst American banks and this is just the leverage of Deutsche’s on-balance sheet. If anyone were to add in the off-balance sheet we would all need a sit down.

But we don’t need those off-balance sheet figures to feel a little queezy about Deutsche and Taunus. In June of 2011 the FT’s Alphaville ran a peice which noted a letter written by the then Chairperson of the FDIC, the Federal body charged with insuring American Banks,

… in which FDIC chair Sheila Blair attacked an unnamed European bank for allowing its US holding company to operate with negative Tier 1 Capital. Taunus does fit the bill:

“…the end of 2009 showed a negative equity of $8.1bn. The important core capital ratio (Tier 1) was minus 7.4 percent – markets actually require a positive value of around ten percent. The [Federal Reserve] has previously regarded additional capital charges for holding companies unnecessary based on the adequate financial strength of their parent companies.”

In other words, previously, a bank which was a subsidiary of a larger bank could have negative capital holdings as long as its parent could be relied upon to bail it out. That has now changed and Taunus has to be solvent itself. As soon as this change became law Deutsche changed Taunus from Bank Holding to just bank in order for Taunus not to have to comply. And it did so …why?

Because Taunus is hideously under-capitalized and Deutsche doesn’t have the spare cash to ship from Germany to the US to shore up it’s US operation. At least not till a few million Greeks start really knuckling down to paying off Deutsche’s debts for it.

Of course this means the next time Taunus needs to borrow from the Fed it won’t be able to do so. A worryingly exposed position to put Taunus in and a measure, in my opinion, that Deutsche feels it has even more pressing problems to deal with at home.

Now I don’t wish to be accused of picking on Deutsche or the Germans so let’s refer back to the Wall Street Journal Article which points out that this move by Deutsche is merely following in the footsteps of our old friend Barclays Bank which did the same for its American operation.

One of the things this sordid little tale suggests is that Europe’s banks just don’t have enough cash or, much more worrying, enough acceptable assets to pledge to central banks for cash, to comply with regulations everywhere they operate. I think the banks are having to decide which regulator they will comply with and which they will thumb their noses at. And the decision is, which one will allow them to pledge the most worthless assets in return for loans.

This is regulatory arbitrage (law avoidance) of a rather desperate and dangerous kind.


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18 Responses to More evidence of German banking worries

  1. simoncz March 22, 2012 at 2:05 pm #

    That Reggie Middleton guy a boombust is always banging on about Germany being in a serious mess and it being far more dangerous than Greece or Spain.

    • Wirplit March 24, 2012 at 4:12 pm #

      As he memorably put it about Europe and its banks… Germany is just living in the Penthouse of the same old Roach Motel.

  2. lennyonestep March 22, 2012 at 4:52 pm #

    “in other words, previously, a bank which was a subsidiary of a larger bank could have negative capital holdings as long as its parent could be relied upon to bail it out.”

    So the question are, does Deutsche and Barclays have the wherewithal to bail out their subsidiaries in the US should they go bust? Can they be relied upon? Can US Law enforce it? How can the US Authorities ascertain the adequate financial strength of their parent companies?
    so many questions.

  3. Pat Flannery March 22, 2012 at 7:59 pm #

    Golem, thank you for your last two articles. Both excellent as always.

    This Debfa thing puzzles me. You write “For example Depfa, the German bank, made very large, long term loans at fixed rates which it then sold on in return for shorter term funding at floating rates.” And Hubert writes that Ireland owes €140b to German banks.

    There seems to be some very large (hidden?) financial connection between Germany and Ireland which I don’t understand. Nor do I understand how Depfa, or any “bank”, could accept short term paper, at floating rates, for long term debt. Did Depfa do that out of Ireland? If so, it must have been “inside” lending. No responsible bank would do that.

    Is such Depfa lending part of the €140b Ireland owes Germany? Surely German banks did not lend €140b to Irish developers for wild speculative projects just in Ireland?

    I have always wondered what was the source of the extreme pressure put on former Irish Finance Minister Brian Lenihan on that black night when he signed the notorious blanket bank guarantee? That has never been explained in any believable fashion. Is there some undisclosed German “dark matter” here?

    Ireland’s current function seems to be to demonstrate the myth that no EU national government will ever default on its sovereign debt. Is Ireland being good Euro soldiers all that stands between Germany and financial nakedness? Did Germany require Ireland to fall on the Depfa grenade by providing a blanket bank guarantee? Is that what really happened on that dreadful November night in ’08?

    If so Germany should remember that the U.S. has a very large stake in Ireland. It is its main export gateway into Europe. It will not allow Germany to use Ireland as a garbage barge to be floated out to sea and sunk.

    Thanks for all you do Golem. Just treat my questions as rhetorical (although genuine) as we all need you to continue peeling back the layers of deceit.

  4. MickC March 22, 2012 at 9:36 pm #

    Just a small point-GMAC also had a sub-prime residential lender, GMAC-RFC. At least it did in the UK-don’t know about the USA.

    • Golem XIV March 22, 2012 at 9:38 pm #

      I didn’t know that Mick C. Thank you. And welcome.

    • SidFinster March 23, 2012 at 1:59 pm #

      GMAC also made a huge number of subprime residential loans in the US. I think “Ditech” was a subsidiary.

  5. mad jack March 23, 2012 at 7:11 pm #

    “All under the umbrella of Ally….panhandling bailout money as well!

  6. Charles Wheeler March 25, 2012 at 2:48 pm #

    For the last thirty years neoliberals have been banging on about the need to rip out the firewalls that reduced the free flow of capital around the globe.

    Now they try to pretend that there’s some kind of sandbox that can prevent contagion spreading from the periphery to the core – there isn’t. The banking system is roped together; as more economies slip over the edge, so the weight on those remaining gets heavier. German banks lent to Greece, Spain, Portugal Italy, as did US banks. Only a constant transfusion of cheap debt is keeping them afloat. The MSM’s insistence that there’s light just ahead, round the next corner, is bluff to retain the masses belief in a broken system and swallow the austerity it requires.

    As Dan Hind says in his latest pamphlet – Common Sense:
    “The governing order’s most powerful protection is our reluctance to explore what underpins the day-to-day of what we think and do … The same people who told us all was well in the years before the crisis are still in charge. This will continue until we achieve a better understanding for ourselves and then act on this understanding.”

    Well worth a read: http://goo.gl/1Wlhu

  7. bob March 27, 2012 at 11:23 am #

    Regarding a change from Bank Holding Company to Bank and a loss of access to FED funding…….

    Are the EU based banks less worried now that they have ECB funding flowing like the Rhine? In a pinch, couldn’t they now obtain ECB funding in exchange for Monopoly Assets (Like Italian RMBS, for example) and divert it to the US subsidury?

    Not ideal, in their eyes, but better than having to inject a large pile of capital now and leave it there.

    • Golem XIV April 5, 2012 at 10:15 am #

      I think that is part of it. They know they could get caught not being able to borrow form the Fed but a)They can cry to the ECB and b) they can whine to the Fed and get it to open some other sort of funding if they can make the case that they are soo very big.

      Either way the logic is to dodge regulation todaty even if it runs a risk tomorrow.

  8. Sublime1 April 4, 2012 at 6:48 pm #

    Excellent article Golem. Good to see you back at the coal front again!

    • Golem XIV April 5, 2012 at 10:16 am #

      Thank you. I am sorry that I have been writing so little.


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