The number of bankruptcies will increase – and hit the banks too

The Bundesbank expects the value adjustments on bank loans to almost quadruple. So far, however, Germany’s banking system has come through the crisis quite stable.

The Frankfurt financial center has done well so far in the crisis.

Dhe banks will have to prepare for an increase in insolvencies and loan defaults in the coming months, according to the Bundesbank’s assessment. By the first quarter of next year, the number of bankruptcies could rise to more than 6,000 in the quarter, warned Bundesbank Vice President Claudia Buch on Tuesday when the financial stability report was presented.

But that would still be fewer bankruptcies than at the time of the global financial crisis. At the time, that number rose to 8,000 in the quarter. Even more companies went bankrupt during the dot-com crisis in the early 2000s.

The banks are likely to hit the bankruptcy wave. The value adjustments on loans could approximately quadruple compared to June, to 13 to 15 billion euros, said Bundesbank board member Joachim Wuermeling. With a total loan portfolio of 1.6 trillion euros, value adjustments of around 0.8 percent are to be expected, the Bundesbank estimates. In absolute numbers, the defaults in the service sector are likely to be greater, but in terms of percentage the Bundesbank expects the largest defaults in the manufacturing sector.

The crisis hits the banks in an already difficult phase, said Bundesbank board member Wuermeling: “It is unpleasant if a tire bursts with a stuttering engine.” At the same time, the banks would have high capital buffers that they had not even had to use so far.

Loan defaults so far manageable

The key to good preparation for the increasing number of bankruptcies for banks, politics and public administration lies in creating sufficient administrative capacities, providing experienced staff and examining the simplification of bankruptcy procedures, said Buch.

During the Corona crisis, the banking supervisors had granted the institutes a number of facilities so that they could continue to provide the economy with loans. “Banks should use their capital buffers to absorb losses,” demanded Buch. “You should also limit the distribution of profits.”

So far, however, Germany’s banking system has come through the crisis quite stable. As a result of the regulatory reforms following the financial crisis in 2008, the central bank believes that the banks are now better capitalized and generally well equipped. However, the simulations are fraught with great uncertainty. Scenarios are also possible in which bankruptcies and the associated loan defaults increase unexpectedly, according to the report.

The number of corporate bankruptcies in Germany has so far been manageable, among other things because of the suspension of filing for insolvency since the spring. The federal government recently extended the special regulation until the end of 2020 in the event of over-indebtedness. This extension does not apply to companies that are solvent.

The Bundesbank has taken a closer look at two risks for the financial system: the increased debt in the private and public sectors – and the development of the real estate market in Germany. For the industrialized countries and emerging economies, the Bundesbank is anticipating an increase in public sector debt relative to gross domestic product as a result of the crisis, but debt in the private sector has also increased. The persistently low interest rates could lead market participants to take higher risks in search of returns, warned Buch. You have to keep an eye on that.

Little traces in apartment prices

The real estate market in Germany is also a focus of the financial stability report. “So far, the effects of the pandemic on the residential property market have barely been visible,” said Buch. The prices for owner-occupied residential property rose in the second quarter in Germany by an average of almost 7 percent compared to the previous year. The banks recently granted almost 6 percent more housing loans than in the same period of the previous year, which does not indicate an end to the boom. “The failure rates are largely constant,” said Buch. The market for commercial real estate is somewhat different, even if this market is much more heterogeneous. “Rising insolvency figures and lower demand for office space could have a negative impact on the commercial real estate market,” said the Bundesbank Vice President.

Recently, the prices of office properties have risen less sharply than in previous years and those of retail properties have even fallen slightly. However, an impact of a possible trend towards home office in the demand for office space has not yet been observed, said Wuermeling. “In the short term, this is not a great danger.”

The challenges for the banks in Germany are apparently not as great as in the euro area as a whole, said Wuermeling. “The banks are working, the lending is running,” said the Bundesbank board of directors. “The banking system is currently fulfilling its central role.” It is now important that the banks continue to fulfill their task: to distinguish good from bad risks – and also to grant loans to good borrowers.