Italian job: The sharemarket raid that has sent shockwaves through Europe

A fortnight ago, Mario Draghi outlined an ambitious and ultra-expensive vision for an integrated Europe that included the pan-European banking union first envisaged more than a decade ago. Within days, a sharemarket raid by an Italian bank on a German rival has underscored how difficult it will be to realise that vision.

The former European Central Bank president’s report was requested by the European Commission, which was concerned that the European Union is becoming increasingly uncompetitive with the US and China.

UniCredit chief Andrea Orcel (pictured) had a virtual meeting with Commerzbank’s new chief executive, Bettina Orlopp, last week.Credit: Bloomberg

In 1990, an EU with only 12 states generated 26.5 per cent of GDP. Today, the 27-member union produces only 16.1 per cent of global GDP while the US has held its share at more than 26 per cent and China has grown its share from 4 per cent to about 19 per cent.

Draghi (famed for his “whatever it takes” moment in 2012 that halted a developing European financial crisis) argued that to regain its competitiveness Europe needed to invest up to €800 billion (about $1.3 trillion) a year, or 4.5 per cent of EU GDP, in sectors like defence and technology and pursue much greater integration, including the integration of capital markets and banking envisaged when bank regulation was handed over to the European Central Bank (ECB) in 2014.

A contemporaneous test of Europe’s willingness to pursue a stronger banking union came only days ahead of the Draghi report when Italy’s UniCredit took advantage of a selldown of the German government’s 16.5 per cent stake in the country’s second-largest bank, Commerzbank.

UniCredit bought a 4.5 per cent shareholding via the government’s sale but lifted its interest to 9 per cent via derivatives. It has since increased its exposure, again via derivatives, to 21 per cent and expressed interest in acquiring Commerzbank. The Italian bank already owns Germany’s third-largest lender, HypoVereinsbank (HVB).

Predictably, that hasn’t gone down well in Germany, with Germany’s chancellor, Olaf Scholz, describing it as an “unfriendly attack.”

German politicians and labour unions are fiercely opposed to the acquisition of an important lender to small and medium-sized companies and Commerzbank itself has been less than welcoming, although its new chief executive, Bettina Orlopp, did have a virtual meeting with UniCredit’s Andrea Orcel on Friday. Apparently, there wasn’t any discussion of a merger.

At face value, there is little to prevent UniCredit from acquiring Commerzbank, if that is its intention – there has been some speculation that UniCredit would like to merge HVB with Commerzbank and emerge with control, but not full ownership, of the enlarged entity.

Germany, having handed over its regulatory functions to the ECB, doesn’t have the authority to veto a merger.

That power lies with the ECB, which has been keen to promote consolidation of Europe’s highly fragmented banking sector.

The ECB has to approve any interbank shareholding of more than 10 per cent (hence UniCredit’s use of derivatives) and would also have to clear any transaction that could lead to a change of control of Commerzbank.

German chancellor Olaf Scholz labelled the raid as an “unfriendly attack”.Credit: AP

While Draghi and the ECB see consolidation of the banking sector as a key ingredient in the policy mix required to improve Europe’s competitiveness, which generally involves far more cross-border harmonisation and integration and, in the case of banking, a pan-EU deposit guarantee scheme, politicians are reluctant to lose control of their major financial institutions.

In the absence of a deposit insurance or guarantee scheme throughout the EU, they worry, understandably, that a bank’s crisis would leave their depositors at risk and the local government on the hook politically and financially.

UniCredit’s tilt at Commerzbank is seen as a big moment for European banking more broadly. If it can acquire Commerzbank, or at least merge HVB into it and have effective control, it could open the doors for a flurry of European banking consolidations.

Memories are fresh. After the financial crisis governments across Europe were forced to bail out their banks with taxpayer funds. Commerzbank was one of those rescued by taxpayers, hence the government’s shareholding.

Indeed, Orcel was a key adviser in the acquisition and carve-up of ABN Amro by Royal Bank of Scotland, Belgium’s Fortis and Spain’s Santander pre-crisis that ended up with ABN, RBS and Fortis nationalised by their governments. No European politician wants to risk a repeat of those events.

The broader view, however, is that many of Europe’s banks – most of them – are too parochial.

They are, with a few exceptions (like Germany’s Deutsche Bank) domestic banks, with concentrated exposures to their own economy and, usually, to substantial holdings of their own government’s bonds that, in effect, leverage their exposure and that of the government’s to the domestic economy and financial system.

The ECB has been keen to promote consolidation of Europe’s highly-fragmented banking sector.Credit: Bloomberg

The ECB and those, like Draghi, fully committed to the “European Project” believe that pan-European banks would create greater diversity, and therefore reduce concentration risk, while also building the scale and bigger pools of capital that would enable the EU to compete with its international rivals.

Bigger and more diverse European banks might also help larger financial markets to develop, reducing Europe’s over-reliance on banks for capital. Other economies, most notably the US, source far more of their private capital – particularly for perceived higher-risk investments, like technology – from financial markets.

An oft-asked question in Europe is why is the market capitalisation of JPMorgan Chase, America’s largest bank, roughly equivalent to the combined market caps of Europe’s 10 largest banks?

It was a question asked by Draghi, who bemoaned European banks’ lack of scale and poor profitability relative to their US counterpart in his report. Scale, diversification and the greater profitability that greater efficiency could generate enable greater risk-taking.

It’s the parochialism, risk aversion and the politicians’ fixation with national champions, particularly after the trauma of the eurozone crisis post-2008, that have inhibited European bank mergers and acquisitions activity.

UniCredit’s tilt at Commerzbank is seen as a big moment for European banking more broadly. If it can acquire Commerzbank, or at least merge HVB into it and have effective control, it could open the doors for a flurry of European banking consolidations.

If it fails because of domestic opposition, the banking sector will remain fragmented, all but a handful of banks within Europe sub-scale and low-returning and the vision that Draghi and others have of a more integrated union, in which a banking union is a foundational piece, will be much harder to realise.

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