Bundesbank Warns Low Business Failures No Guide for Future

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Germany’s Bundesbank warned that a remarkably low number of business failures during the Covid-19 pandemic shouldn’t be seen as a guide for future risks.

Thanks to government support that propped up companies and households during last year’s recession, the financial system has emerged from the crisis largely unscathed and banks didn’t face a serious test, it said Thursday in its Financial Stability Review.

But that doesn’t mean the link between the broader economy and credit risk is broken forever.

In future recessions, “credit risk could increase more strongly,” the Bundesbank said. “The experiences of the past few years should therefore not be projected into the future.”

Germany relied heavily on loan guarantees and a job-retention program during lockdowns to contain the spread of the coronavirus. After a strong summer recovery, the economy is now facing headwinds triggered by persistent supply bottlenecks and a fresh spike in infections that’s leading to new restrictions on public life.

The central bank also warned that rising interest rates could cause losses for the financial system. For banks, the burden of higher financing costs could outstrip the benefit of improved interest income in the short term.

In addition, the wider system took on greater risk as lenders sought higher returns in an environment of low interest rates, it said.

Stronger Defenses

“We need to make sure that the financial sector can deal with future contingencies that we all don’t know,” Bundesbank Vice President Claudia Buch said in an interview with Bloomberg Television’s Maria Tadeo. If rate hikes come more abruptly, “then we have weaknesses in several parts of the financial sector.”

Buch urged bolstering banks’ defenses by raising so-called countercyclical capital buffers designed to use periods of economic expansion to improve resilience against a downturn. The requirement was reduced to zero at the onset of the pandemic.

“What are the measures to take if there’s a lot of uncertainty? You need higher buffers in the system,” she said. “This is the time now to take precautionary measures.”

(Updates with comments from Claudia Buch starting in eighth paragraph.)

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