One of Europe’s largest financial institutions, Deutsche Bank, finally appears poised to do what the entire region’s banking sector needs to do: get rid of bad assets and increase its capacity to absorb losses.
If the plan works, it will be a step in the right direction. That said, European authorities had better be ready to act if it doesn’t.
CEO Christian Sewing has announced the bank’s most ambitious reorganization to date – eliminating about 18,000 jobs, and largely abandoning the German giant’s efforts to compete with U.S. investment banks, particularly in equities trading. The new Deutsche Bank, if all goes well, will be much more focused on the expanding business of serving corporate clients.
There is no question that this decision comes with great personal pain. A lot of lives were upended this week. Still, this course is far more promising than the one Sewing previously was considering: merging Deutsche with crosstown competitor Commerzbank. That would have created a bigger entity with potentially bigger problems.
The new plan improves systemic safety in two ways. First, it will leave Deutsche Bank’s balance sheet more than 200 billion euros smaller – a good thing, bearing in mind that Europe still is overbanked and needs to redistribute its banking capacity to better reflect demand. Second, the plan will help Deutsche handle future shocks. By 2022, the bank aims to have about 5 euros in loss-absorbing capital for each 100 euros in assets – a leverage ratio of 5%, up from 3.9% at the end of March. This will make a hitherto undercapitalized bank less of a weak link in the European financial system.
Granted, this new leverage ratio doesn’t account for the riskiness of Deutsche’s business, which (according to regulatory standards) will increase. Also, a ratio of 5% – assuming the bank can achieve it – still would fall far short of what would be needed to weather a severe crisis.
This is where European authorities come in. They’ve been slow to compel banks to develop realistic crisis plans, and to pre-commit the financial resources needed to wind down large institutions with minimal collateral damage. And Europe’s governments, eager to build and sustain national champions, often have indulged the kind of overreach that blighted Deutsche’s prospects. In the future, regulators need to be less forgiving and more impatient, so that Europe’s financial system is better prepared for the next crash.