“The New Way of Continental European Universal Banking”

JEL-Classification
G00 - FINANCIAL ECONOMICS
O 40 - ECONOMIC GROWTH, GENERAL
G2 – FINANCIAL INSTITUTIONS AND SERVICES
L1 – MARKET STRUCTURE, FIRM STRATEGY AND MARKET PERFORMANCE

ACCEPTED PAPER FOR
THE 17th AUSTRIAN WORKING GROUP ON BANKING AND FINANCE WORKSHOP AT KARL-FRANZENS-UNIVERSITÄT GRAZ
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Submitted by
Johann Sebastian Kann**
*The author is PhD student at Vienna University of Economics and Business Administration

“The root of the current predicament for the Continental European Universal Banking System lies in their failure to respond to the changes that have taken place in their external environment over the past decade: the globalization of capital, the growing sophistication of issuers (such as governments and corporations) and investors (such as insurers and mutual funds), and the central role of the dollar in global investment flows.” N.N

Abstract

The goal of this paper is to investigate how the European Banking environment has changed dramatically over the past years. Based on new studies the author will present the Modern Financial Intermediation Theory from Allen and Santomero (2001) and Recent Banking Efficiency Studies from Van Dijcke (2000) and Ali/ Gstaach (2000), in order to be able to derive new conclusions for the Continental European Universal Banking System. The paper presents a possible new structure of the European Banking System, which will show 3 major segments of local, national and international Banks. Finally the author will draw conclusions of such changes on the Monetary policy of the European Union.

TABLE OF CONTENT

1. Introduction ... 4
2. Consolidation trend in the European Banking Industry ... 5
3. New structure of the European Banking Environment ... 6
5. Review of recent Financial Intermediation Theory  ... 8
6. Implications for the Monetary policy in the European Union  ... 9
7. Summary ... 10
8. Outlook  ... 11
9. References  ... 11

1. Introduction

There is broad agreement that the environment of financial services in Continental Europe has changed and will change fundamentally. 

There are three major reasons for that:

• the traditional characteristic features of Banking in Continental Europe have changed due to deregulation and liberalisation in the European Union,
• further financial integration in Europe and
• technical progress.

There has been a very fundamental change of view in the financial theory¹:

OLD

• As economic literature in the past has shown, the specific role performed by banks in the economic system is not to intermediate savings, but rather to certify the quality of borrowers, monetizing liabilities which otherwise would fail to find purchasers in the markets (Fama 1985)².
• Banks are essential for economic development in that they are a crucial device for the selection of entrepreneurs and the allocation of financial and real resources (Diamond 1984)³.

NEW

• Allen and Santomero said in 1998 that the traditional theory of financial intermediation was focusing too heavily on the functions of financial institutions that are no longer crucial in mature financial systems.

Certainly the largest advances in the near future in Continental European Banking will occur by:

• further product innovation (“Securitization”, “Riskmanagement”),
• better distribution channels (“e-banking”),
• continuing restructuring on the cost and revenue side (“focus on the core business”) and
• a deeper focus on information technology (“outsourcing”), which will result in increasing competition between the banks.

In this context the question arises whether universal banks in Europe are suited to cope with the current transformation process or not. The answer to this question seems to be simple:

• Universal Banks in Continental Europe have established themselves as successful players on international markets over the past (see Germany, Italy, France, Belgium, Netherlands, Spain in international Rankings)
• Nevertheless they have to become more flexible in adapting to new European needs for the future.

There is no doubt about the fact that higher competition will lead to further consolidation in the banking industry, which theoretically should benefit their clients in the long run. (see next chapter)
Today they are both highly internationalised markets for certain products and markets that still have strong domestic focus. Retail activities are still confined very much to national territories and internationalisation is making progress. Cross-border transactions between financial intermediaries are bound to open up new and attractive markets and allow for better risk diversification. Austria’s major banks for instance have been very successful in establishing business contacts in the European Union, opening local subsidies and acquiring local banks in the Central and Eastern European countries. This illustrates the trend of closer cooperation and increasing integration in the Continental European Banking industry.

[...]

1 followed by new implications in recent efficiency studies in Banking.

2 Fama, E. (1985): What’s different about banks?, in Lewis,-Mervyn-K., International Library of Critical Writings in Economics, vol. 43. Financial intermediaries. Aldershot, 1985; 455-65.

3 Diamond, D. (1984): Financial intermediation and delegated monitoring, Review of Economic Studies 51, 393-414.