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Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
Unicredit’s announcement last week that it had built up a 9 per cent stake in Commerzbank sparked a rare giddiness among European bank watchers. In the continent’s highly fragmented banking system, mergers are often confined to entities from the same country and lending activity is largely home-biased. Onlookers hoped the Italian bank’s move could pave the way for a deeper tie-up between Italy and Germany’s second-largest listed lenders, and kick-start consolidation across the bloc. Whatever happens, Brussels knows that to compete for green and high-tech industrial supremacy, the EU needs to leverage the combined financing power of its banking system.
Former Italian Prime Minister Mario Draghi’s report into Europe’s economy estimated last week that the bloc needed to raise capital expenditure by €800bn a year to remain competitive. But a significant impediment to boosting investment is the lack of scale among the EU’s private lenders. For measure, JPMorgan Chase, the largest US bank, has a market capitalisation greater than the 10 largest EU banks taken together. In the banking industry, size matters. Larger banks can spread risk and benefit from cost efficiencies, which helps to generate higher profits and, in turn, more financing opportunities.
In the EU’s single market of 23mn businesses and 450mn people, European banks have the scope to raise finance at scale. But they have been limited in their ability to take advantage through consolidation or by expanding regional lending.
Cross-border M&A activity in the European banking sector has been particularly weak since the global financial crisis. The value of transactions in the euro area, measured by the total assets of M&A targets, fell by about two-thirds between the pre-crisis decade and the period after 2008 until the Covid pandemic, according to ECB research. There are multiple reasons why. European governments that had to bail out international lenders during the crisis have been more cautious about cross-border mergers. There is often also a desire to support domestic champions and to protect provincial banking networks.
Banks attempting to expand beyond their national borders also have to navigate reams of red tape, including differences in tax, accounting and insolvency regimes, labour laws, and securities markets. This helps to explain why both cross-border lending and mergers are subdued. European banking authorities have a reputation for being more restrictive than their international peers, too.
The forthcoming drop in interest rates — likely to crimp margins — raises the onus on European banks to innovate or find efficiency gains to boost profitability. This may encourage greater interest in M&A, but Brussels also needs to do more to ensure that there are fewer barriers to commercially viable cross-border M&A and lending opportunities.
That means overcoming domestic political resistance to its banking union. A common deposit scheme, for instance, could help reduce concerns around international capital and liquidity movements, and the harmonisation and streamlining of national regulations would make cross-border financing far easier. A better integrated capital market would help, too. The persistent gap in returns on equity between EU and US lenders is partly driven by the advantage American banks have in generating income from their vast investment banking and trading activities. Multiple strong revenue streams support banks’ ability to scale.
Europe needs to unify its banking system sooner or later. Otherwise it will find that the economic gap with America and China will only grow larger.
