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How does the „Bad Bank“ Concept Influence the Commercial Banks’ Ability and Willingness to Increase Commercial Lending in Germany

Seminararbeit 2010 21 Seiten

BWL - Investition und Finanzierung



List of Abbreviations

List of Figures

List of Tables

1. Introduction

2. Why Commercial Banks Decreased the Commercial Lending?
2.1. Financial Crisis 2007-
2.2. Decrease in Commercial Lending

3. German Bad Bank Concept
3.1. How Does the Bad Bank Model Work?
3.1.1. Special Purpose Vehicle Model
3.1.2. Consolidation Model
3.2. Purposes

4. First Experiences with Bad Banks
4.1. WestLB AG
4.2. Hypo Real Estate Holding AG

5. Conclusions


List of Abbreviations

illustration not visible in this excerpt

List of Figures

Figure 1: Annual growth in commercial lending in the Euro-Zone

Figure 2: Loans to the private sector within Euro-Zone

Figure 3: Special purpose vehicle model

Figure 4: Consolidation model

List of Tables

Table 1: Key figures of WestLB’s group balance sheet

How does the „Bad Bank“ Concept Influence the Commercial Banks’ Ability and Willingness to Increase Commercial Lending in Germany?

1. Introduction

During the Financial Crisis 2007-2010, which was the result of housing bubble in the United States in 2006, commercial banks rapidly decreased the amount of commercial lending worldwide. So called subprime credits made the assets of commercial banks less worth during a short period. It was the cause for the credit crunch in many economies. Because many enterprises have to rely on debt capital, which they lend from commercial banks to finance their investments, the credit crunch hit such enterprises very hard. The outcome is that the whole economy suffers. Many governments elaborated the bad bank concept to solve the problem of decreased commercial lending, also Germany. It means, that banks will be allowed to start special purpose vehicles (SPV) for holding the subprime credits and to bring such subprime credits out of the balance sheet of the bank. In Anglo-Saxon countries there are two other terms in use for SPV: (loan) recovery agency and asset management company. According to Homoelle, Ruff and Tuerr[1] in theory and praxis there are many variants of bad bank models existing. Until now the question which model is most successful, became insufficient exploration.

German government adopted two different models of bad banks and proposed the Financial Market Stabilisation Act (FMStFG), which became effective on July 22th 2009.[2] After that some banks used this opportunity and transferred their subprime assets to such SPV.

The scope of the work is first to evaluate why exactly commercial banks decreased the commercial lending, second to analyse German bad bank concept and then to work out the incentives of this concept for more commercial lending by commercial banks and to show some examples of implementation of bad bank concept by German banks. At the end the answer on the question, whether the bad bank concept increases the ability and willingness of German commercial banks to make more commercial credits available or not, will be given in this term paper.

2. Why Commercial Banks Decreased the Commercial Lending?

Knowing how to solve the problem of decreased commercial lending and how to prevent future crisis depends on understanding causes of past crises. In this chapter author will shortly explain the causes of the worldwide financial crisis and also show up the causes for the credit crunch on the interbank market in Germany.

2.1. Financial Crisis 2007-2010

Following Yergin, the current financial crisis is the worst since Great Depression in 1930s.[3] Elliot differentiates the recent crisis into four broad categories:[4]

- Macroeconomic and overarching social and political factors
- Flawed incentives and structures in financial institutions and markets
- Failed government regulation and interventions in the financial markets
- A severely reduced focus on risk after decades of favourable market conditions

In the middle of 2007 first problems in mortgage finance occurred in the United States and have spread to all parts of credit market. Some of the biggest financial firms on Wall Street suffered. It was difficult to get commercial and private loans from the banks. In his article about the US policy response for the recent crisis Malhar Nabar stated: “The two central features are first, the downturn in housing and the wider economy; second, the freezing up of credit markets for a wide range of asset classes other than overnight lending.”[5]

2.2. Decrease in Commercial Lending

The freezing up of credit markets in the Euro zone began in 2008, as shown in the statistics of the European Central Bank below. During years 2008 – 2009 annual growth in commercial lending decreased from 15 % to -7 %.

illustration not visible in this excerpt

Figure 1: Annual growth in commercial lending in the Euro-Zone[6]

The reason is the existence of risky securities and stocks in balance sheets of banks. So banks couldn’t afford to give as many loans to their customers as before the crisis. During trouble times like financial crisis 2007 – 2010 for banks it’s difficult to value and to sell such subprime assets. Depreciation for subprime assets needs higher deposits. Furthermore the minimum regulatory capital, which is one of three Basel II constraints,[7] is not enough to back now existent securities and stocks with higher risks. So customers get fewer loans because banks cannot provide the money.

Such situation maintains the trust and transactions on the interbank market. Because of pessimistic mood of investors refinancing costs increased. The pressure due to decreasing prices for assets and due to loan defaults grew. In this situation bank have to reduce it’s debt-equity ratio either by increasing of equity or by reducing of assets. In the annual report 2009 European Central Bank explains that in trouble times the debt-equity ratio should occur by asset downsizing.[8] According to this asset decrease usually occurs by outsourcing of non-strategic assets to improve the liquidity situation.

German government saw the need for action and decided about methods for more stabilisation in finance markets.

3. German Bad Bank Concept

German Bundesrat enacted the law about the bad bank model on July 10th 2010 and accepted governments proposal about SPVs.[9] According to Bundesbank’s press release in the future banks will be allowed to transform toxic securities, stocks and bonds from their balance sheets into bad banks. This regulation shall improve the ability of lending by sustaining banks equity. The new regulation is unsolicited and aims at commercial banks and state banks. In this chapter author will show, why FMStFG could theoretically increase the willingness and ability of German banks for more commercial lending.

3.1. How Does the Bad Bank Model Work?

According to Bundesministerium der Finanzen German government established two bad bank models, which should help banks to get out of the crisis:[10]

- Special purpose vehicle model (SPV model)
- Consolidation model

3.1.1. Special Purpose Vehicle Model

According to Bundesministerium der Finanzen[11] a bank is allowed to launch SPV as own bad bank which doesn’t need bank licence. The good bank transfers risky assets to the SPV at book value of June 30th 2008 reduced by 10 %, but maximum at book value from March 31st 2009. In return good bank gets a treasury bond from the own bad bank. General Government guarantees for this treasury bond. The benefit of this exchange is that the good bank is than able to get new money from the Bundesbank because of owning a treasury bond with state guarantee. In the end receivables remain stable, but they contain less highly volatile stocks. This way the equity of the bank can be relieved and can be used for commercial lending.

3.1.2. Consolidation Model

The consolidation model aims at outsourcing of risky business divisions to federal law workout entity, which is financed by Financial Markets Stabilisation Fund (SoFFin). This institution is comparable with a bad bank. The difference to SPV model is that federal law workout entity gets whole business units, not only risky stocks. With this model German government makes it easier in particular for state banks to consolidate their businesses and to focus on their core competences.[12]

3.2. Purposes

German government wants to reach four targets with the new regulation about bad banks:[13]

- Banks can approve their balance sheets in the short term
- Banks get security in planning of their depreciations
- Minimum risks for the state and tax payers, because bank owners are responsible for the costs
- New free capital can be used to increase commercial lending

Both models aim at transformation of subprime assets out of balance sheets of good banks, to get stable financial system in the country and to provide more trust between market actors by reducing uncertainty.


[1] Homoelle, S. / Ruff, M. / Tuerr, H. (2010), p. 663

[2] Bundesgesetzblatt (2009)

[3] Yergin, D. (2009)

[4] Elliot, D. J. (2010), p. 8

[5] Nabar, M. (2008), p. 1

[6] Taken from ECB (2010), p. 21

[7] Bundesbank

[8] ECB (2010a), p. 39

[9] Bundesrat (2009)

[10] Bundesministerium der Finanzen (2009a)

[11] Bundesministerium der Finanzen (2009)

[12] Bundesministerium der Finanzen (2009a)

[13] Bundesministerium der Finanzen (2009)


ISBN (eBook)
ISBN (Buch)
807 KB
Institution / Hochschule
FOM Hochschule für Oekonomie & Management gemeinnützige GmbH, München früher Fachhochschule
bad bank commercial lending kreditvergabe westlb hre hypo real estate



Titel: How does the „Bad Bank“ Concept Influence the Commercial Banks’ Ability and Willingness to Increase Commercial Lending in Germany