Before I get into the meat of this article, just a reminder to book your ticket for the MoneyWeek Wealth Summit in November we have some of the smartest minds in investment and economics giving their views on what's next for the financial system, where we're heading politically, and how to protect and grow your wealth amid the turmoil. Book your ticket here.
Deutsche Bank has long been a weak spot in the global banking sector post-2008, lingering in the financial system like a rotten tooth.
Yesterday, in its latest efforts to restructure itself, it laid off 18,000 staff, a fifth of its workforce.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
The pictures of bank workers walking away from their desks with belongings in boxes was strikingly reminiscent of Lehman Brothers, as many papers observed.
And rumours have long swirled darkly around the bank, hinting that it could be at the centre of any future crisis.
But is there really any chance of Deutsche Bank actually being another Lehman?
Why Europe has taken longer to recovery from the financial crisis
Before we talk about Deutsche Bank, let's have a quick reminder of how the post-crisis recovery period has panned out for the banking sector. The US took rapid action to fix its banks. It's easy to focus on the prevalence of tech stocks when you're looking at the US, but the relatively quick banking clean-up is perhaps an even bigger reason for its outperformance since the crisis.
Britain, meanwhile, wasn't as quick to sort its banks out, but we did get it done eventually. The worst were nationalised or semi-nationalised (bear in mind that we taxpayers still own RBS, which is staggering yet easy to forget). Quantitative easing and the judicious propping up of the housing market helped with the rest.
Continental Europe, on the other hand, struggled. Firstly, everyone was distracted by Greece. Secondly, it was hard to be honest about the state of the banks, because then you'd have to admit that they needed a bailout, and then you'd have to acknowledge that this would involve printing money, which was politically contentious.
Why? In 2008, banks were bankrupt. To prevent the collapse of the banking system, national governments had to step in and implicitly take on the bad debts of their banking sectors. This, by necessity, involved close co-operation between central banks and governments.
That's because the debts of the banking sector were potentially so ruinous that even a sovereign balance sheet would struggle to take them on (particularly in the UK). So you needed a central bank to stand behind the sovereign, and print as much money as required, to keep bond yields down and avoid any doubt over the solvency of the state.
(Inflation may or may not end up being an issue, but as we've all learned, during a deflationary banking crisis at least, it's not.)
If you are the US, or even Britain, and you control your own central bank, then you can do this. And they did. But the problem for the eurozone is that there's one central bank and lots of national governments.
The British government and the British central bank could stand behind the British banking sector, and while British voters didn't much like it, there's not much to be said, because they didn't like the idea of losing all their savings either.
But asking the German government to agree to the European Central Bank standing behind the Greek banking sector, especially when one nation's voters have a self-image that idolises thrift and views the others as somewhat profligate well, that's a much, much tougher ask.
That's why it took so long to move the eurozone on from the "urgent" phase of the crisis. That's why there are aspects of the economy that are still in a chronic condition. And Deutsche Bank's plight is just one high-profile example of that. The share price peaked in May 2007, and has been falling pretty much ever since.
How Deutsche Bank over-reached itself
Deutsche Bank's overall story is a relatively familiar one of banker hubris. To cut a very long story short, it's a not-dissimilar journey to that of RBS. A local bank gets it into its head to become a global investment bank.
It did OK for a while, but during its meteoric rise, it overstretched itself in all sorts of ways, and in the less-forgiving post-2008 environment, it struggled badly, particularly as its main rivals in the US managed to fix themselves more rapidly.
So now, after a decade of scandals and fines, it has decided to try to go back to its old-fashioned business of helping small and medium-sized German businesses. To do so, it's fired a load of people and it is sticking about $300bn in risky assets into a so-called "bad bank" (this is where a bank quarantines its riskiest or unwanted holdings until it can get rid of them or write them off).
The problem, though, is that this type of business is not very profitable, particularly in Europe, where ultra-low interest rates have squeezed banks' profit margins. And, as Bloomberg points out, the situation in Germany is even harder, because in the German banking sector, "numerous smaller banks keep margins razor-thin".
So even this drastic turnaround plan may not be enough. As the New York Times says, the layoffs generate big upfront costs, while "revenue is certain to fall as the bank shrinks, creating the risk of a vicious circle of declining income and profits".
Why the eurozone is a hostile environment for banks
So what does any of that mean? In effect, the eurozone is a particularly hostile environment for banking. The economy is fragile, low rates are hurting profits, and there are too many banks but also too many barriers to mergers (not least governments that all want to preserve their own specific "national champions").
As Bloomberg points out, it's hard to see any of this changing soon. That means the banks will continue to struggle. In turn, that makes it harder for the eurozone economy to recover decisively.
In the long run, this can only really change in two ways.
Either the eurozone integrates more closely (so a more federal Europe, with its own federal budget, issuing its own sovereign debt, and with a fully-integrated banking system, where no one cares if Deutsche buys SocGen or vice versa), or it gives up on the idea of a more integrated financial system, although that in turn would make it difficult to create a full-blown global financial centre of the sort that any federalist must crave.
Presumably, the desire to pursue the first option is why Christine Lagarde is set to head up the European Central Bank. As head of the International Monetary Fund, she was the boss of a supranational organisation that is known for coming in and bailing countries out in exchange for stringent economic conditions.
That's exactly what the head of the ECB will probably be having to do for the foreseeable future: imposing stringent economic conditions and new financial mechanisms in exchange for more money printing and interest rate cutting.
Whether voters will tolerate that or not is another issue. But that's the direction of travel.
As for Deutsche Bank itself would I buy it? No chance. But do I think it's going to cause a Lehman-style collapse? I very much doubt it.
Every regulator on the planet must have Deutsche on its radar by now. We know the strategy for dealing with a bankrupt bank now it was laid out in 2008 and there are now no qualms, even in the eurozone, about the idea of money printing.
In short, Deutsche Bank is more a symptom of the eurozone's problems than a specific worry for ordinary investors like us.
John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.
He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.
His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.
By Vaishali Varu Published
By Ruth Emery Published