European savers are shocked by the way in which their money has been frozen in Iceland. In the Netherlands, TV-reporters showed how Icesave has absonded with the money, leaving empty call centres in their Amsterdam offices. Next came the uncertainty about whether the Icelandic authorities would honour the deposit guarantee.
An exceptional situation, but not an exceptional way of banking. In Europe many foreign banks attract deposits through branches. These deposits fall under the deposit guarantee scheme of the home country. Although the Dutch (and UK) authorities are now quite angry at Iceland, some Dutch banks operate in the same way as Icesave. ING Direct is a good example. ING Direct is wholly owned by the Dutch ING Group and claims to be the world’s leading direct savings bank. Ultimo 2007 ING Direct had a total of € 191.5 billion in funds entrusted outside the Netherlands. Most of these were collected by subsidiaries (in the USA, Germany, Canada and Australia). The ING Direct subsidiaries fall under local deposit guarantee schemes and pose no threat to the Dutch state coffers. Still, a sizable part (€ 62 billion) was attracted through branches in the United Kingdom, France, Italy and Spain. These funds fall under the Dutch scheme, which since October 7 implies that the first € 100,000 are guaranteed. Dutch law requires that the costs of the scheme are apportioned among the remaining Dutch banks. This would imply that domestic banks bear the risk of ING’s international expansion.
But in the hugely concentrated Dutch banking market, the law is not credible. If any of the big three banks would collapse, recouping the losses on the remaining two would start a domino-effect. In the current crisis everyone therefore assumes that the Dutch scheme is backed by the state. Right after Minister of Finance Bos broadened the scheme to € 100,000, ING Direct adjusted her websites (in a.o. France and the UK) to advertise to its clients the increased protection from the Dutch goverment. Should we worry? It depends on whether you take a foreign or a Dutch perspective. € 62 billion is a lot of money. It is about four times the total deposits of Landsbanki (the bank behind Icesave), but it is much lower than the € 208 billion of Dutch savings that are entrusted to the ING Group. Dutch GDP is roughly 40 times the Icelandic economy. The amount of € 62 billion comes down to approximately 10% of Dutch GDP. So if need be, the Dutch government can take the hit and, given its calvinistic rectitude, will take the hit. Foreign liabilities of ING Direct would increase the Debt/GDP ratio by 10%. This is a large transfer but it can be swallowed given the favourable fiscal starting position of the Dutch government (a debt/gdp ratio of ca. 45%). The credibility of the implicit home government guarantee in branche banking decreases when the size of the branche activities outgrows the size of the home economy. Iceland is an extreme case. It would take exceptional growth of the ING Direct branches to arrive at Iceland’s imbalance. So foreign savers shouldn’t worry.
One could argue that the real problem would be to compensate the Dutch ING savers (ca. 30% of GDP). Still it makes a huge difference whether future taxpayers need to pay foreign deposit holders (external transfers) or domestic savers (internal tranfers). My guess is that Dutch voters are not willing to run these risks for the glory of the ING Group. There is no argument why they should protect foreign deposits holders and by doing so subsidize the international expansion of a private bank (with no upper limit!). It also doesn’t make sense that the legal form that has been chosen by the bank (branche vs subsidiary) determines the sponsor of the deposit scheme. This flaw is again the consequence of not adapting the European financial infrastructure to the cross-border activities of banks. The Dutch authorities should not expose its citizens to these risks and should therefore ask the ING Group to start incorporating its branche activities as subsidiaries.