Introduction
Lots of light have been shed on banks recently after the credit crunch effects that were felt throughout the world due to its sheer magnitude and the ripple effect it had all over the world, in addition to the negative effect felt on the real global economy. As such, lots of academic papers have been written in an effort to try to understand the root cause, the current implications, how to avoid any future negative affects and most importantly how to assess the soundness of banks financial position. On this paper our aim will be to focus on German banks and whether they are riskier than the other European competitors.
The reason behind choosing Germany as a benchmark is due to its large diversified economy which is now considered to be the biggest in Europe in terms of GDP (based on 2008 figures[1]). That being said, German banks operate within the European Monterey Union (EMU), which have open door policy to European banks to enter any market within the EMU zone. This have increased the competition in the banking sector within the EMU and resulted on banks to be overall more efficient and have reduced risk due to their geographic spread and diversity in the products offered (Haq and Heaney, 2008). Therefore, finding the answer to our question above have significant indications as we would be able to know if the banks in the biggest economy in Europe is riskier than their European counterparts.
Review of relevant literature and theory
To better understand the topic and get a better idea about the situation, we feel that it's necessary to exhibit some literature review that have been written around the subject matter as it will help us get a general idea about the relevance of the topic and give us some background information which would be beneficial to us, as it will help us better understand the findings of our empirical study of the data on hand.
It is noteworthy to highlight the role German banks play in the local economy due to the fact that Germany is the second saving nation on the world with a Gross National Saving rate of 19.818%[2] as of the end of 2009 (2008: 25.852%). This gives the banks a good access to inexpensive liabilities which enables them to create assets on the back of those liabilities, because of the mere fact that Germans have low appetite to investments on the capital markets and prefer to put the income in excess of their spending as deposits in banks (Germany banking and it role in the economy). This behaviour has implications also on the corporate level as German companies prefer to take loans to finance there operations rather than use the capital markets, which leads the banks to exert their power on the markets and at some points play the policy maker role in some of the biggest companies in the country. Therefore, and because of the key role of the banks in the economy, the government have been very vigilant on handling the first signs of bank's flounder since any bank going under will have a profound effect on the other banks and a direct effect on corporate customers to the extent of bankruptcy if their access to either short or long term debt is jeopardized. A good example of the alertness of the government would be the way the IKB bank case was handled and the bank being bailed out by the government at the last moment with a total cost of €1.9 billion, which is paid from the taxpayer's money and would result in an increase in the government budget (Wolfgang Reuter,2008).
Methodology and Data
In our effort to find an answer to the question of whether German banks are riskier than other European competitors, we have obtained a sample of European banks from twelve European countries, the countries being: Germany, Italy, France, Greece, Netherland, Luxembourg, Finland, Belgium, Austria, Portugal, Ireland and Spain, for the period from 1994 to 2008. This sample is comprised of wide set of characteristics associated with these banks. We have used the data available in the sample to measure the risk of these banks and to compare whether or not German banks are riskier than the rest of other European banks. Three variables have been selected to measure the risk of these banks and to draw a conclusion whether or not German banks are riskier than the rest of European banks. These are liquidity, credit and market risk. Liquidity risk represented by liquidity ratio which is calculated by dividing liquid asset by total assets. The higher the liquidity ratio means the lower the liquidity risk is and vice versa. On the other hand, the credit risk represented by loan loss provision to total loans ratio, reflects the bank ability to recover its default loans.
We have constructed the null and the alternative hypothesis to enable us to complete the T-test and to conclude whether or not German banks are riskier than other European banks as follow: the null hypotheses for liquid ratio is the mean of German banks liquidity is equal to the mean of other European banks liquidity, while the alternative hypothesis is the German banks mean liquidity is greater than the mean of other European banks liquidity. The null hypothesis for loan loss provisions to total loans (llpl) is the mean of German banks llpl equal to the mean of the other European banks llpl, while the alternative hypothesis is the mean of German banks llpl is less than the mean of the other European banks llpl. Finally, the null hypothesis for the measurement of the market risk is the mean of the market ratio of German banks is equal to the mean of the market ratio for the other European banks, while the alternative hypothesis is the mean of the market ratio of German banks is greater than the mean of market ratio of the other European banks.
Results and Discussions
Germans would rather put their saving in banks instead of capital markets since they are risk averse. This point makes the German Banking system unique in the fact that it almost dominates the economy since they are the main source of financing. The above have lead the banks to grow in size and exert their power in the market place and have given them ability to expand geographically across Europe and become universal banks. (available at Photius, 1995)
From analyzing the results of T-test, we can conclude that the German banks have a higher credit ratio than the other European banks this means the German banks have a higher credit risk than the other European banks. On the other hand, when we compared the liquidity risk we found that German banks have a lower liquidity ratio than the other European banks, which means German banks have a higher liquidity risk than the other European banks. The results have also shown that market risks that faced the German banks are higher than those faced by the other European banks.
Conclusions and recommendations
In conclusion, its obvious that German economy is heavily dependent on the role of banks and therefore special attention should be paid to their financial position soundness and the high liquidity risk faced by them through depending more on the capital market to finance corporate activities.
