In extremis, Berlin has launched a rescue mission. It promises to recapitalize the bank and find a new shareholder. On July 1, the bank's supervisory board votes on a new structure. But political squabbling or European Union competition watchdogs, who stand ready to block unfair state aid, could undermine the whole effort.
Predictably, putting an institution with $180 billion in assets in ambitious politicians' hands led to financial disaster. The scandals now engulfing publicly traded BGB have exposed the incestuous relationship between Germany's state governments, the banks they control, and private borrowers, as well as the flaws in Germany's dusty banking laws.
No wonder officials in Brussels--who want Germany to stop subsidizing its public-sector banks--are riveted to this drama. "This is finance at its murkiest and most corrupt," says a Frankfurt financial expert.
And its least efficient. BGB was so badly run that regulators say it will need more than $1.8 billion soon to avoid collapse. Its biggest error: Last year, it lost at least $1.5 billion--bank regulators are still trying to work out precisely how much--in the East German property market, which boomed after unification and then went bust. BGB also set up a rental property fund, which guaranteed hefty returns that BGB still owed when rents collapsed. The bank withdrew its initial 2000 accounts after shareholders questioned them. The state parliament has set up a special committee to investigate the bank, and Berlin's state prosecutors are investigating alleged breaches of trust and other misdeeds.
Because Berlin has few corporate borrowers, the bank's top brass poured as much money as possible into local property loans. Developers dubbed BGB "the vacuum cleaner" because it would suck up any deal. Far from worrying about the bank's reckless lending, the city government, which owns 56.6% of the bank's shares, encouraged it to give the Berlin economy a much needed boost.
Getting the message across was easy. Senior politicians sat on the bank's supervisory boards. Take Klaus Landowsky, former leader of the Christian Democratic faction in the city's parliament. He chaired the board at Berliner Hypothekenbank, BGB's mortgage subsidiary. It was when a Landowsky-approved $260 million loan to two developers went bad that regulators realized the scale of the crisis. Yet Landowsky, who was ousted in May, would probably have kept his job if news hadn't surfaced that he had accepted $18,000 in undeclared political campaign contributions--from those developers. He could not be reached for comment.ARCANE LAWS. But questionable practises at the top are only part of the problem. Even with the best of intentions, senior management would have had problems given the way the city created BGB. The institution, formed from state-owned Landesbank Berlin, private-sector Berliner Bank, the mortgage lender Berlin Hyp, and four smaller banks, was an experimental merger--the first combination of Germany's public- and private- sector banks. The problem was that each bank had overlapping businesses and kept its own corporate structure to avoid running afoul of Germany's arcane banking laws, which require private-sector, public-sector, and mortgage banks to have separate management. As a result, Wolfgang Rupf, CEO of BGB, which fell under private-sector laws because it was publicly listed, couldn't control managers under him--especially at Berlin Hyp, where most of the losses accumulated.
That's not to let Rupf, who is struggling to keep his job, off the hook. Insiders say he took far too long to realize the bank was failing. Only in the past month has Rupf, who has run the bank since 1997, put the finishing touches on a new organization that splits the group into three operating units: retail, international and investment banking, and real estate. They'll still operate independently, but their activities won't overlap, making it easier to control risk. Rupf couldn't be reached for comment.
The biggest problem now is getting the bank on solid footing and the politicians out of management. The heavily indebted city of Berlin will probably have to find all the money to bolster the bank's capital. The second major shareholder after Berlin, Norddeutsche Landesbank (20%), wants a bigger stake in BGB and would even countenance a merger once Berlin recapitalizes the bank. At this stage, though, it won't contribute a pfennig. Nor will Parion (7.5%) or smaller investors, who are furious because the bank's market value is at an all-time low--half what it was 12 months ago. They want the Berlin municipality to buy them out at a good price.NO CHOICE. The politicians are beginning to pay for this mess. Eberhard Diepgen, the city's long-serving Christian Democratic mayor, resigned. Klaus Wowereit, a Social Democrat who replaced him, is committed to bailing BGB out. He has little choice. The bank employs more than 16,000 people in a city with a jobless rate of 17%. But Berlin's debt is already $30 billion, or $9,000 per capita. Local taxes cover less than 50% of spending. The rest comes from the other states and borrowing. The city planned to raise at least $800 million by selling some of its BGB shares--not an option now. So Wowereit will have to borrow more to fund BGB's deficit.
Brussels could have the last word. EU Competition Commissioner Mario Monti says he will probe the bailout if it looks as though BGB is getting fresh capital on terms that are much more favorable than market rates. "The question is whether we are dealing with state backing," he says. If he objects, Monti could imperil BGB's rescue plan.
Berlin taxpayers are paying a high price for the ambition of politicians. There is, however, a sunny side to the mess: It's the perfect excuse for Germany's federal government and legislature to start separating the country's financial sector from politics, a step that vested interests--like Berlin's officials--have fought. BGB proves that letting politicians control a bank is no way to build a showcase city. By David Fairlamb in Frankfurt