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Brussels, 27 February 2008

State aid: Commission investigation into German banks IKB and Sachsen LB – frequently asked questions

(see also IP/08/314)

Why did the Commission open proceedings against IKB and Sachsen LB?

The Commission will investigate whether the measures in favour of the two banks would have been acceptable for a market economy investor.

Under EU state aid rules, public investments in companies can be considered free of aid if they are made on terms that a private investor, operating under market conditions, would have accepted.

On that basis the Commission has for example considered that a number of capital injections in German Landesbanken in the specific circumstances of the respective cases complied with the market economy investor principle and therefore did not confer an advantage on the banks concerned (HSH Nordbank and Bayern LB - see IP/05/1096; WestLB and NordLB – see IP/07/1112). However, in the current situation of investments in banks in difficulty, the Commission has doubts whether a private investor would have invested on equal terms and the Commission has to investigate the cases. Should the Commission conclude that the measures constitute aid, they might be compatible as rescue or restructuring aid. To that effect, the measures would need to be in line with the EU Guidelines on rescue and restructuring of firms in difficulty (hereinafter R&R Guidelines). The Commission will investigate whether these conditions are met.

To this end, the Commission welcomes comments from third parties, in particular in order to determine how to offset undue distortions of competition induced by the possible aid.

What is the purpose of an opening of a formal investigation?

The purpose of initiating formal investigation proceedings according to Article 88(2) is to carry out an in-depth investigation of complex cases by exploring doubtful matters further with the Member State concerned and by hearing the views of interested third parties. The opening of a formal investigation is without prejudice to the final decision, which may still find that the aid is compatible.

Is the opening of a formal investigation advantageous for the banks?
Yes, becausea final decision will give legal certainty. A decision without a formal investigation runs the risk of being annulled by the Courts on purely formal grounds related to competitors' rights of defence. However, in an in-depth investigation third parties have the right to comment and the decision ending such an investigation can only be attacked on its merits.

Do you believe that financial markets will react to the Commission's decision to open proceedings?

The Commission clearly and consistently made clear that measures of a certain magnitude – such as in the two cases - will inevitably trigger the opening of an in-depth investigation.

Were the measures notified?

The Commission received notifications including restructuring plans for both IKB and Sachsen LB in January 2008. The information provided in the notifications will be assessed during the investigation procedure.

Why has the Commission decided to initiate the formal investigation procedure in these cases now?

After the first measures in favour of both banks last summer, the Commission started a preliminary investigation. However, while these investigations were underway further public interventions for both banks took place In the meantime the Commission had gathered sufficient information to start the in-depth investigation and give third parties the opportunity to comment on the measures.

What is the need for state aid control in the banking sector?

In a functioning market economy the exit of inefficient firms is a normal and even essential element. It would be detrimental for the functioning of markets if every company in difficulties were to be rescued by the state, because this would mean tolerating inefficiencies and creating adverse incentives for companies (the moral hazard problem). Moreover aid to firms in difficulty raises particular competition concerns as it can shift an unfair share of the burden of structural adjustment and the attendant social and economic cost to competing undertakings who are operating without aid, and to the economies of other Member States.

Therefore, aid to firms in difficulty is regarded as one of the potentially most distortive types of state aid.

As in any other sector, crisis situations in the financial sector are usually triggered by excessive risks, bad management, defective supervision and/or fraud. In the banking sector, this can be aggravated by the risk of contagion through transmission in the interbank market. Also, the danger of moral hazard may be particularly acute in the banking sector. In such situations unchecked subsidies to one or more banks which committed management or judgment errors have, for the above mentioned reasons, the potential to significantly distort competition between banks and between the economies of the Member States.

What are the specificities of state aid cases in the banking sector?

When discussing the compatibility of and devising procedures for dealing with state aid in the banking sector it must be borne in mind that, depending on the circumstances of the case and the identified transmission channels, a crisis in one or more individual banks may have particularly harmful spill-over effects on other banks or the financial system as such. History shows that a serious financial crisis can have a significant impact on GDP. Preventing those spill-over effects may require:

  • rapid state/central bank intervention in order to prevent contagion effects on healthy but interconnected other undertakings
  • effective and decisive state/central bank intervention in order to maintain/restore confidence and prevent bank runs
  • confidentiality of the preparation of the intervention in order not to jeopardise its effectiveness.

Which measures do not fall under the state aid rules of the Treaty?

Instead of granting selective advantages to individual banks, Member State/central banks could react to a banking crisis with general measures open to all actors in the market (e.g. lending to the whole market). Such general measures often do not constitute state aid.

The Commission considers for instance that a number of standard activities of central banks such as open market operations and standing facilities are outside the scope of the state aid rules. Emergency liquidity assistance in specific circumstances (in particular if granted subject to sufficient collateral and with a penal interest rate) may also be free of aid, as decided in the Northern Rock case (see IP/07/1859). Furthermore, consumer reimbursement under self-financed deposit guarantee schemes is also outside the scope of state aid rules.

If Member States have doubts whether an envisaged measure is within or outside the scope of the state aid rules, the Commission endeavours to answer their questions as rapidly as possible. If Member States wish legal certainty they can notify the measure and the Commission will assess it and adopt a decision.

What are the conditions to authorise rescue aid?

The criteria laid down in the R&R Guidelines can be summarised as follows:

  • the beneficiary has to be a firm in difficulty and may not have received rescue or restructuring aid during the past 10 years
  • the aid should normally consist of liquidity support and should be restricted to the minimum necessary to keep the firm in business for the rescue period
  • the aid must be granted in the form of loans or loan guarantees
  • the aid must be limited to a period of maximum 6 months
  • if the Member State communicates to the Commission within these 6 months a restructuring plan or liquidation plan, then the rescue aid can normally continue for the time needed by the Commission to decide on this plan.

Could the conditions for rescue aid be met in these cases?

In the IKB case the state-owned bank KfW assumed in the long-term all of IKB's rights and obligations under a risk shield; the measure therefore does not seem temporary and reversible as required by the R&R Guidelines.

In the Sachsen LB case, the first measure (liquidity facility) seems to be of non-structural nature and was limited to six months. If found to constitute state aid, it might be found compatible as rescue aid, because it seems also to comply with the other conditions relevant for rescue aid. The second measure (sale with guarantee and establishment of the sales price), if considered state aid, could not be found compatible rescue aid, because it is a structural measure and not temporary. It would therefore need to be assessed as restructuring aid.

Which rescue aid decisions in the banking sector has the Commission approved in the past?

Our case experience so far shows that Member States have found it relatively easy to comply with the rescue aid conditions. The Commission has also approved rescue aid in a timely manner, allowing the banks to stay temporarily on the market, even in crisis situations.

Crédit Lyonnais, at the time the biggest European banking group, had run into financial difficulties in 1994 and 1995. Having launched its investigation in March 1995, the Commission authorised the restructuring plan in July 1995 (see IP/95/829). A subsequent crisis triggered an urgent need of further aid in the form of a rescue and restructuring package that the French authorities notified in late September 1996, amounting to nearly FRF4 billion (= €610 million). Reflecting the urgency, especially the deterioration of the bank´s rating below the investment grade, the Commission allowed the rescue part of the aid package within 4 working days.

In July 2001, the Commission approved rescue aid of about €2 billion to Bankgesellschaft Berlin (BGB) with a view to enabling it to restore in the short term its solvency. The aid had become necessary following substantial losses by BGB notably in the real estate sector.

More recently, in the Northern Rock case, after having received details of the measures on 26 November 2007, the Commission decided on 5 December 2007 that the guarantee by the Treasury, could be authorised as rescue aid in line with the R&R Guidelines (for details see IP/07/1859 and MEMO/07/545).

What are the conditions to authorise restructuring aid?

As regards the beneficiary, the conditions are the same as for rescue aid.

As regards the aid, unlike for rescue aid, the aid must

  • be based on a restructuring plan, which must demonstrate that the company is capable of restoring its long term viability
  • be limited to the minimum necessary in time and amount, and the beneficiary must significantly contribute to the cost of restructuring
  • not distort competition to an extent contrary to the common interest. In this respect, the Commission may impose specific conditions and obligations on the beneficiary.

Moreover, as for rescue aid, the beneficiary may not have received any rescue or restructuring aid during the past 10 years, unless rescue aid was necessary to prepare the restructuring plan under assessment.

Which restructuring aid decisions in the banking sector has the Commission approved in the past?

Our case experience so far shows again that the R&R guidelines provide an appropriate framework to deal with restructuring cases, also in the banking sector.

In the BAWAG case, the fourth-largest bank in Austria had run into difficulties following speculative financial investments during the period 1995 to 2004. BAWAG made considerable losses and was not able to close its 2005 balance sheet. As depositors withdrew large amounts of money from saving accounts in spring 2006, the Austrian Parliament adopted a law in order to avoid a severe liquidity crisis. The law provided for a financial guarantee worth €900 million to the bank, subsequently authorised by the Commission, under the condition that the restructuring plan and compensatory measures, including the sale of the bank, would be implemented (see IP/07/898).

In the Bank Burgenland (BB) case, the Commission approved restructuring aid totalling €360 million. BB's privatisation was an essential component of the restructuring plan which was approved by the Commission.

In February 2004, the Commission approved three aid measures granted in favour of Bankgesellschaft Berlin AG (BGB) with an economic value of about €9.7 billion (see IP/04/234). In order to compensate for the distorting effects of such significant aid measures, Germany and the Land Berlin committed to a variety of divestitures. This included the undertakings to divest Berliner Bank, one of BGB's two retail brands, to hive-off the real estate services subsidiaries which were the main cause for the crisis and, finally, to sell BGB by the end of 2007.

Both of these cases are good examples for in-depth investigations that did not disturb the banks or the financial sector, but were the start of a successful restructuring story.

What is the current status of the WestLB and Northern Rock cases?

As regards WestLB, the public owners agreed to provide a guarantee of up to €5 billion to cover any payment defaults of a €23 billion special purpose vehicle which will be ring-fenced from WestLB's balance sheet. The details of the transaction are not yet finally decided. The Commission is in close contact with the German authorities and asked for prior notification of the capital measures. The German authorities committed to inform the Commission about the planned measures before the implementation. At the current stage it is too early to say whether the measures involve state aid and raise competition problems.

As regards Northern Rock, the Commission took a decision on 5 December 2007 (see IP/07/1859). The UK authorities committed to submit a restructuring plan leading to long-term viability without unduly distorting competition, by 17 March 2008 at the latest. The Commission is in close and constant contacts with the UK authorities on this matter. If the UK restructuring plan involved substantial amounts of state aid, the Commission would be likely to open a formal investigation procedure.

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