Persistently low interest rates are a worry for small and medium-sized credit institutions in Germany. "The credit institutions will have to scrutinise their business models and work on their profitability," said Bundesbank Executive Board member Andreas Dombret at the joint presentation of the results of a survey conducted by the Federal Financial Supervisory Authority (BaFin) and the Deutsche Bundesbank. Around 1,500 German institutions were surveyed, including commercial banks, savings banks and credit cooperatives. Measured in terms of total assets, the participating banks represent roughly a quarter of the German banking market and are subject to the direct supervision of BaFin and the Bundesbank. The survey is the most extensive of its kind to date. The study did not survey the 21 major German banks under the direct supervision of the European Central Bank, or their subsidiaries.

In spring 2015, the supervisors asked the institutions to simulate their own planning scenarios as well as the impact of four different hypothetical scenarios on their balance sheets and their profit and loss accounts until 2019. The latter were defined by the supervisors to allow the results to be compared across all banks. Looking at their own calculations and forecasts, the institutions reported an aggregate drop in pre-tax profits of one-quarter up to 2019. "That's just over two billion euro on average each year," Mr Dombret noted. If interest rates remain at their current low levels until 2019, net earnings would slump by 50% under the scenario's assumption of constant total assets. In an extreme scenario, in which interest rates fell even further until 2019, the institutions even expect reductions of between 50% and 75%, as the results of the model calculations show.

Banks suffer under low interest rates because they narrow banks' margins in interest business. If high-interest investments mature, for example, banks and savings banks can only reinvest these at considerably lower interest rates, squeezing their earnings.

"Soldiering on is extremely hazardous"

In the light of the survey results, Mr Dombret warned the institutions vehemently against sitting out the current situation. "Soldiering on through the low-interest-rate phase is extremely hazardous," he said, adding that the impacts of the low-interest-rate environment are of a structural nature and will leave their mark on banks' balance sheets for years to come. Together with Raimund Röseler, Executive Director for Banking Supervision at BaFin, he therefore urged the institutions to work on the profitability of their business models. That particularly means reducing their reliance on interest business, Mr Dombret argued, pointing to the opportunities that could be found in digitalisation, for example, which would allow for cost-cutting. Banks should also reconsider their branch structures. "Some banks will have to downsize, some will merge," said Mr Röseler. How institutions face up to the risks of low interest rates, however, is at the discretion of each institution, Mr Dombret added. "We can only make suggestions," he emphasised.

Resilience is still assured

According to Mr Dombret, the good news is that the institutions have prepared for the coming risks. "Most German credit institutions have used the past few years to build up their capital and capital buffers." For now, the institutions could use these funds to cushion the blow of reductions in interest business. That is why even persistently low interest rates did not pose an insuperable challenge for German banks. "The profitability situation is serious, but resilience is still assured," Röseler concurred. Even in the harshest scenario of the study, there is no reason to expect the default of an institution, said Mr Dombret. However, the resilience of the institutions is based on positive assumptions derived from the healthy economic situation at present, he continued. Mr Röseler announced his intention to prevent reserves from being eroded, saying that "they are needed for the low-interest-rate setting". Particularly at risk banks would therefore be subject to greater scrutiny in future, he noted, with bans on distributions or bonuses also being conceivable.