Brussels’ Latest Destructive Project, Culling the Euro Area’s Banks, Hits a Snag

The governments of Italy and Spain are doing everything they can to obstruct EU-supported bank mergers from taking place within their borders. 

Since the Global Financial Crisis, the EU has stumbled through almost two decades of more or less uninterrupted economic stagnation. More recently, its self-harming sanctions against Russia have accelerated the (possibly irreversible) decline of Europe’s key industrial heartlands, Germany and Italy, while spreading further economic pain throughout the bloc. Now, the EU seems determined to make matters worse by conducting a ruthless cull of the bloc’s banks.

This is a project that has been in the works for a long time. The European Central Bank. Even back in 2017, the European Central Bank was talking about weeding smaller banks to reduce competition in the sector. As noted in our previous post, “The Curious Case of the Hostile Takeover Bid By a Bank Facing Criminal Charges“, there are at least three main reasons for the EU’s obsession with thinning the Euro Area’s banking herd.

First, Brussels wants to encourage the rise of European banking champions that are capable of competing on the global stage with Chinese and US mega-lenders. Second, fierce competition in the Euro Area’s banking sector has squeezed the profit potential of larger lenders  —  and boosting the profits of large banks is of greater importance to Brussels and Frankfurt than, say, increasing the amount of credit to SMEs, or reducing the cost of that credit, or improving the deposit rates paid to banking customers.

Third, as regular NC reader vao pointed out in a comment to that post, the European Central Bank is itching to set up its CBDC, the digital euro, and “having a few large European banks with the technical capacity to implement it is of course preferable to having a multitude of small establishments that may not be interested, or may not have the resources to do it, or that will require much more time and coordination efforts to achieve the desired outcome.”

However, the EU faces three major obstacles in bringing about its final banking solution:

1. The boards and shareholders of smaller large banks, like Spain’s Banco Sabadell or Italy’s BPM, are dragging their heels. As the rising interest rates of recent years have boosted returns on equity and valuation multiples, perennial underperformers – like Sabadell, BPM and Commerzbank – have become more viable standalone players, empowering their boards to reject takeover interest. This is the main reason why most of the attempted bank mergers of late have been of a hostile nature.
2. Cross-border bank mergers remain a logistical nightmare, and few governments are willing to let foreign enitites swoop in for their national banking champions. It’s worth recalling that of the few cross-border hostile bank mergers that have prospered, many have ended in disaster. The most notorious example is the 2007 Royal Bank of Scotland-led €71 billion carve-up of Dutch group ABN Amro, which resulted in bailouts for several members of the acquiring consortium. That’s not to forget the immense complications of integrating their legacy IT systems (click here to read about the ‘Biggest IT Disaster in British Banking History’, h/t Rev Kev).
3. The national governments of the Euro Area’s third and fourth largest economies, Italy and Spain, are doing everything they can to obstruct EU-supported internal bank mergers from taking place within their borders. This invites the question: will other national governments follow suit? Last week, things came to a head as the European Commission threatened the governments of both Italy and Spain with legal action for daring to block two hostile banking mergers.

On Monday, the Commission warned Rome that it appeared to be violating the bloc’s merger rules by citing national security to thwart Italian mega-lender UniCredit’s bid for rival Banco BPM.

In a delicious irony, the Meloni government used the ongoing war in Ukraine and Unicredit’s ongoing presence in the Russian market as a pretext for blocking the move, claiming that as long as Unicredit still has operations in Russia a merger between Unicredit and BPM would pose a national security risk. Unsurprisingly, Brussels is livid.

“The problem is that this is pure political posturing and the rules are clear and governments have no formal power to prevent these mergers from happening,” one senior European official told the FT (emphasis my own).

Which is broadly true: the European Central Bank has the final say on bank mergers in the 20 member countries of the Euro Area, particularly those involving significant institutions or cross-border transactions. However, neither Madrid nor Rome seem to care. They are willing to pull out all the stops to try to prevent these bank mergers from taking place. And that is causing all manner of teeth gnashing in Brussels and Frankfurt.

As Politico EUROPE reports, “the warning letter from Brussels puts the EU and Italy on a collision course in a highly sensitive sector”:

The Commission has an exclusive competence to rule on mergers under EU competition rules, has examined the UniCredit-BPM deal and given a thumbs up with conditions limited to curbing excessive market concentration. The Italian government says the deal poses a security risk, partly because UniCredit still has operations in Russia.

Many observers in the banking sector, however, see the security block as a smokescreen to disguise what Italy’s government really wants: a far bigger role for Monte dei Paschi di Siena (MPS.)

MPS was bailed out in 2017 but is seen as a national darling that Rome would like to bulk up into a “third pole” in the banking sector after UniCredit and Intesa Sanpaolo…

Italy is unlikely to back down easily, as undermining the UniCredit-BPM deal is only part of a bigger shakeup aimed at finding a bigger role for MPS.

The government has sought to steadily offload MPS from state hands after it was bailed out, and last year it sold a large share to BPM.

The government’s aspirations that MPS and BPM would merge to form a “third pole” fell flat, however, when UniCredit swooped in on BPM.

The Commission has issued the Italian government an ultimatum of 20 working days in which to respond to its 55-page letter. In response, Meloni’s office has said her government would “answer the clarification requests [in the letter] in a collaborative spirit”.

Which brings us to Spain. Last Thursday, the Commission issued a legal letter to the Pedro Sánchez government warning that it, too, could face serious consequences for violating EU banking and single market rules. In recent months, the Spanish government has done just about everything it can to derail local banking giant BBVA’s attempted hostile takeover of local rival Banco Sabadell without explicitly banning the move.

After conducting a public consultation on the merger, the Spanish government gave the green light for BBVA’s purchase of Sabadell to go ahead, but on one key condition — that the merging of the two banks cannot occur for at least three years. In other words, BBVA cannot integrate its operations with Sabadell during this period, and that period could extend to five years or longer.

“The government has authorised the BBVA and Sabadell deal on the condition that, for the next three years, they remain separate legal entities and maintain separate assets, as well as preserve autonomy in the management of their activities,” Economy Minister Carlos Cuerpo told a news conference in mid-May. “What we are doing (…) is protecting workers, protecting companies and protecting financial customers.”

The Spanish government is not alone in taking desperate measures to thwart the merger. Banco Sabadell’s management even went so far as to sell off its British subsidiary, TSB, to Spanish TBTF giant Banco Santander, so as to reduce Sabadell’s value as a merger target. It is not clear, however, whether it will be enough to crush BBVA’s interest.

Next Stop: European Court of Justice?

The Commission, meanwhile, has warned Madrid that Spanish banking laws, introduced roughly a decade ago, giving ministers powers to intervene in mergers “impinge on the exclusive competences of the European Central Bank and national supervisors under the EU banking regulations.”

The Commission and the ECB have a clear interest in making an example of Spain. After all, what would happen to the EU’s still-born banking union if other national governments were to take a leaf out of Madrid and Rome’s playbook?

According to the FT, the letter “is a first step in proceedings that have the potential to drag on for years and lead to Brussels referring Spain to the European Court of Justice for an alleged breach of EU law.”

Admittedly, the Spanish government has clear political motives for wanting to scupper BBVA’s hostile takeover. Most importantly, Sabadell is a Catalan bank, and Catalonia’s pro-independence parties, which are junior partners in the Sánchez government, are dead set against the merger.

But there are lots of other reasons to oppose the proposed BBVA-Sabadell tie-up, including perfectly sound economic ones. For a start, if the hostile takeover went ahead, it would not create a European banking champion as the Commission asserts (BBVA’s biggest market is in Mexico); it would create an even bigger national monster.

Spain already boasts the second most concentrated banking sector in the Euro Area (after the Netherlands). According to a 191-page report by Spain’s National Commission on Markets and Competition (CNMC), 120 financial institutions already disappeared between 2007 and 2021, leaving just five lenders (Santander, BBVA, Caixabank, Sabadell and Unicaja) controlling 69.3% of the credit market. If BBVA takes over Sabadell, 70% of the market will be controlled by just four institutions (Santander, BBVA, Caixabank and Bankinter).

As we noted in the previous post, this would have a clear negative impact on banking competition and stability:

BBVA’s proposed takeover of Sabadell… faces strong opposition from the national government in Madrid, but it has received the blessing of the European Central Bank, which has long favoured thinning the herd of banking players in the Euro Area.

As the German economist and small bank activist Richard Werner warns, economies with fewer and bigger banks will lend less and less to small firms, which tends to mean that productive credit creation that produces jobs, prosperity and no inflation, also declines, and credit creation for asset purchases, causing asset bubbles, or credit creation for consumption, causing inflation, become more dominant.”

In other words, more financialisation, less productive activity. In the eurozone, more than 5,000 banks have already disappeared since the ECB started business a little over two decades ago, according to Werner. And the central bank is determined to continue, if not intensify, this process…

A BBVA-Sabadell tie up would not only further erode competition in an already heavily concentrated financial sector, with all the ugly implications that entails (including more cartel-like behaviour, higher risks of big bank implosions, and the inevitable closure of even more bank branches and ATMs, making accessing cash even harder, just as the big banks intend), it is also likely to impact the banking services available to small businesses… Sabadell is Spain’s largest lender to small and medium-size enterprises.

We have already seen this happen in the US following the US Riegle-Neal interstate Banking Act of 1994, which permitted truly nationwide interstate banking for the first time. A 2013 paper published by the Federal Reserve Bank of Cleveland, titled “Why Small Business Lending Isn’t What It Used to Be”, admitted that the resulting concentration of the banking sector had a detrimental impact on small business lending:

Banks have been exiting the small business loan market for over a decade. This realignment has led to a decline in the share of small business loans in banks’ portfolios. As figure 2 shows, the fraction of nonfarm, nonresidential loans of less than $1 million—a common proxy for small business lending—has declined steadily since 1998, dropping from 51 percent to 29 percent.

The 15-year-long consolidation of the banking industry has reduced the number of small banks, which are more likely to lend to small businesses. Moreover, increased competition in the banking sector has led bankers to move toward bigger, more profitable, loans. That has meant a decline in small business loans, which are less profitable (because they are banker-time intensive, are more difficult to automate, have higher costs to underwrite and service, and are more difficult to securitize).

In other words, central bankers in the US know perfectly well that banking consolidation ultimately leads to less lending to smaller businesses. Presumably, the same goes for the central bankers in Frankfurt. Either they don’t care if small, local businesses hit the wall en masse, or — even worse — this is one of the unstated goals of the banking cull.

As the Spanish journalist Xavier Vidal Foch reported last month, the Spanish competition regulator admitted in its report on BBVA’s hostile takeover bid against Sabadell that over four-fifths of Sabadell’s SME clients could end up losing long-term access to credit as a result of the merger.

A Divergence of Interests

This is one of the key areas where the interests of national governments diverge sharply from those of EU institutions and national market regulators. National governments need small businesses to survive or, dare I say, thrive, because: a) they pay taxes; and b) they employ the lion’s share of the nation’s workers, who also pay taxes.

By contrast, Brussels’ main constituency can be found among the large corporations and banks that pay the fees of the estimated 25,000 lobbyists making a very comfortable living in the city. Brussels is the second-largest lobbying hub in the world after Washington as well as home to an extremely opaque and unaccountable system of governance.

Viewed through the eyes of Brussels’ bureaucrats and Frankfurt’s central bankers, business is all about scale. And only the largest banks in Europe are on the right end of it. From the FT:

Brussels views a network of fewer, bigger banks as essential to creating a globally competitive financial sector as Europe’s financial institutions fall further behind their US counterparts, and has grown increasingly frustrated with hostility from national governments.

Europe has to “stop with the philosophy of national champions”, said Enrico Letta, the former Italian premier who wrote a landmark report on EU market integration last year.

“We have to transform these national champions into European champions, having an equal presence in different countries. We need to have the Airbus of banks,” he added.

Of course, as a number of FT readers pointed out, there is a world of difference between a pan-European aerospace company like Airbus and a commercial lender.

  Old Kent Road:

What is the point of a super large pan European bank? Letta is misguided if he genuinely believes his analogy to Airbus and the aviation industry.

Banks are inherently volatile and fragile business models: Large banks present systemic risks, and lead to moral hazard, in Minsky moments, as shown by history again and again.

Srebrenica:

Apparently the only two options available to poor Europe now are either member state protectionism or misguided EU-level pressure to build ‘European champions’ (misguided since Europe is in fact home to about twice as many of the world’s largest banks by assets than the US — what lags isn’t their size but their valuations, which isn’t something that the usual fantasies about “an Airbus of banking” will remedy).

The EU’s obsession with size also ignores an even bigger truth: small, local banking networks have been key to economic progress and development in countries with wildly divergent economic and political systems, from the late 19th century United States to China’s “transitional” economy. The US still has over 4,000 banks today — more than all of the small banks in the entire European Union combined — while China has 4,588, including 1,427 rural commercial banks, 812 rural credit cooperatives and1,616 village banks.

The industrial success of Germany’s “Mittelstand” was also built in large part on the network of small, local banks that emerged in the late 19th and early 20th centuries. Germany is a highly decentralised country where finance remains partly local, albeit strongly connected to the global financial system. But the number of small, local banks in the country is shrinking rapidly. According to Werner, the goal is “to merge away all 800 co-operative banks (it used to be 1100) into one”.

Unicredit’s overtures towards Germany’s second largest lender, Commerzbank, have so far met stiff domestic political opposition — even by Germany’s new Chancellor Frederick Merz, who enjoys close ties to the financial services industry, in particular through his four years spent chairing BlackRock’s German supervisory board. Berlin would probably do well to maintain this stance given that Unicredit’s current CEO, Andrea Orcel, helped to orchestrate the 2007 buy out of ABN Amro that imploded months later, leading to multiple state-funded bailouts.

Good Morning from Germany, where Chancellor Friedrich Merz has rejected the idea of a joint European deposit insurance scheme. He argued that there’s no reason to combine well-functioning national liability systems at the EU level.
Merz’s position is a setback for the… pic.twitter.com/jNxkomI5EH

— Holger Zschaepitz (@Schuldensuehner) July 6, 2025

But because the Italian lender has not made a formal takeover bid yet, the Commission is not yet threatening to take formal action against the German government. But it presumably will if a formal bid is rebuffed by Berlin.

Lastly, it’s worth echoing a question Vidal Foch raises in his article:

“Who is the banking business ultimately for?”

Because it’s clearly not for customers. According to the CNMC report, the forecast synergies (cost savings) of €850 million from the BBVA-Sabadell tie up “cannot be guaranteed to occur”; “the possible transfer of benefits to consumers is not verifiable or quantifiable”, which is a requirement of the EU; and the “possible complementarity” of both entities “would not compensate” for the greater concentration “in certain segments and geographical areas” of the resulting mega-lender.

Meanwhile, many Sabadell customers are likely to be transferred to BBVA products “where commissions are higher or conditions are less favourable”. Some will inevitably face financial exclusion as their local branch is closed. Despite all of these concerns, the Spanish regulator But who will need local bank branches anyway when everyone will soon be using the EU’s digital euro, whether they want to or not?