Beyond Wirecard: What Really Ails German Finance

Editor’s note: This article first appeared in the Financial Times comment section on August 14, 2020 under the title “Wirecard shows why German business needs a cultural shift.”

On the surface, the collapse of Wirecard is rooted in an accounting scandal made possible by gross failures on the part of Germany’s supervisory authorities. This is shocking enough in a country that prides itself on a highly skilled bureaucracy.

At its core, though, the Wirecard affair is about much more. First, it reflects the shaky state of the national banking sector, systematically distorted by a political and business culture peculiar to Germany.

Because the authorities and politicians are not entirely blind to the weaknesses of the German banking sector, they were willing to engage in a big and very risky bet.

All hoped that Markus Braun’s crafty storyline about a fintech based in a Munich suburb becoming a global champion would pan out. It would give a much-needed boost to the German financial sector.

In view of this irrational thinking, the “reforms” bandied about in Germany, especially by Olaf Scholz, finance minister and the Social Democrats’ candidate for chancellor in next year’s election, are unlikely to address the problem.

The mooted “solutions” — regular rotation of accountancy firms, separating their lucrative advisory business more clearly from accounting, adding supervisory staff and tightening laws and regulations — make up a familiar package.

But they fail to address the underlying issue, which is the German banking sector’s fragility. It is teetering no matter where you look. Deutsche Bank is a shadow of its former self.

Commerzbank is even worse off. Savings banks cannot cope with zero interest rates. The once grotesquely overblown Landesbanken are still in the throes of consolidation. Co-operative banks are not in good shape, either.

For a country that is the world’s fourth-largest economy, this is disturbing.

The biggest driving force behind the collective blindness and groupthink that played out in the Wirecard collapse is a profound, but widely unacknowledged, German inferiority complex about banking. There is a genuine question about whether Germans can really operate a successful banking sector.

It is a cliché to say that a nation’s financial sector is “over-banked”. But in Germany, it is a reality. The market is dominated by public sector banks, which are under less profit pressure than private banks.

This depresses the earnings potential for all lenders. It results in lower margins in the interest business and higher risk costs with private customers and the lower tier of corporate customers.

Besides, Germany has a higher share of distributors and independent financial brokers who claim much of the margins, especially from the lucrative market segment of better-off households below the hedge fund client level. Many countries do not have such structures.

There is comparatively little commission business in Germany, since its citizens invest less than other nations in stocks. Unlike some European countries, Germany has extremely strict consumer protection laws, which make high interest rates for subprime customers in the credit card business impossible.

These fundamental structural weaknesses demanded attention. Instead, Wirecard’s emergence was seen as a magic wand that would wave the other problems away.

What is to be done? The answers are all unsatisfactory. Unwinding the market structures is basically impossible. One reason is that many public sector banks offer cushy board jobs for retired politicians.

In the end, a cultural shift is needed. It should be based on three principles, each still quite alien in Germany. The first is transparency. This is necessary to encourage the adoption of ideas, incentives and business practices that might challenge Germany’s most cherished habits and closely guarded methods.

Embracing this principle may prevent a repeat of the disastrous mistake Germany made in the Wirecard scandal of blaming the unfolding mess on “perfidious Albion”. Clearly, suppressing information, rather than probing it rigorously, is not the way to go.

The second principle is financial capitalism. It means accepting that an economy is strengthened not by protecting powerful incumbents, but by keeping important companies accountable and at the top of their game.

Finally, there is supervision. Regulators should focus on correcting market failures, not on protecting national reputations or champions. Pursuing the latter agenda leads to competitive decline or to even bigger scandals.

In contrast, exercising the oversight function is vital to a nation’s sustainable economic strength. If that principle alone were firmly embraced, it would constitute major progress for Germany.