European Deposit Insurance Should Restore Confidence

9 September 2013

Dr. Rolf-E. Breuer, former Spokesman of the Board of Managing Directors and former Chairman of the Supervisory Board of Deutsche Bank, describes the current reforms in the European financial sector as a step in the right direction. However, a central problem has not been addressed so far: The confidence of bank customers, taxpayers and citizens in the banking system has suffered, particularly since the financial crisis.

On 4 September, Breuer spoke about the development of financial markets in Frankfurt following an invitation from the Center for Financial Studies (CFS). His lecture was part of the Presidential Lecture Series hosted by Otmar Issing, President of the CFS. Breuer explained that the increasing deregulation, liberalization and globalization in the banking sector in the last decades have resulted in the citizens’ loss of confidence in banks.

As a consequence of increasing competition in the financial sector, customers do no longer stay with only one bank, but choose the bank that offers the best products. Therefore, the close relationship between banks and their customers suffered. On the other hand, the success of bank managers is more and more linked to the short-term shareholder value instead of long-term and sustainable outlooks for their institutes. According to Breuer, this development also contributed to the current crisis.

Some banks, like the IKB or Sachsen LB, did not have sustainable business models even before the crisis, said Breuer. For example, their portfolios included subprime mortgages bought up across the Atlantic. There had to be a better control of the sustainability of business models of banks in the future, warned Breuer. A more efficient review of business models would be a demanding task for the banking supervisory authority, he said, because the auditor had to be at least as good as his counterpart.

Breuer criticized that the proposed reforms had missed the aim to restore confidence. Taxpayers were not interested in leverage ratios or the shadow banking sector. The planned European banking supervision and banking resolution schemes were necessary, but for bank customers first of all a European deposit insurance scheme mattered, which had made little progress so far as third pillar of the banking union.

In this context, Breuer complained about the policy action in Cyprus: It was a serious mistake to put the safety of savings less than Euro 100,000 into question, he said. The mistrust of citizens in the financial system was testified once more. Thus, a European deposit insurance scheme would be an important signal to citizens that the system will protect them if necessary.

In Breuer’s opinion, cross-border problems will also be easier to handle with the help of a European deposit insurance. In addition, the viability of the system will increase while the costs for each country decrease and investors have less incentive to invest in countries with safer systems.

However, Breuer warns that the introduction could face problems because of already established deposit insurance systems all over Europe. These are of different quality: The quality level in Germany is high already, and the question arises if the German system could be used as a benchmark  for Europe. To restore confidence it would also be important that a representation of the deposit insurance, which also speaks the respective language of bank customers there, will be established in each country. This, however, involves a lot of bureaucracy and makes the deposit insurance a huge project for Europe.