Ernst’s Economy: The outlook for The Netherlands for 2014: Pt II

This is the second part of my last article of 2013.

The economy

It can be expected – according to the Dutch Central Planning Bureau (CPB) – that the Dutch economy will grow slightly in 2014, but that no large improvement in the economic situation will emerge.

The forecasted growth of 0.2% is insignificant and it is even well within the range of statistical measurement errors: this means that the whole growth is yet uncertain.

Personally, I neither expect a spectacular improvement in Dutch exports, nor in domestic consumption. In my opinion, both will remain at moderate levels.

With respect to the exports, it seems that there is no zone with spectacular economic growth within or outside the Eurozone.

Even the 4.1% of forecasted economic growth in the US seems to be rather based on overly optimistic assumptions than on real growth; Joe Sixpack, the archetypical 'average' American citizen, still seems to be cautiously consuming at the end of 2013.

The economic growth within Europe will also be moderate at best in 2014 and the fairytale of the everlasting growth in the BRIC countries seems to be crushed by reality too.

For me, the most telling detail with respect to forecasted exports for 2014, has been the strongly diminished fleet of cargo planes of the large Dutch airliner KLM: how can it be that Dutch exports will soar in 2014, when one of the largest cargo airliners in Europe reduces its fleet by 30%. That does not match.

This moderate growth of exports, as well as the still handicapped domestic consumption in The Netherlands (see the next chapter), cause that I don’t expect more than only moderate economic growth in The Netherlands. 

That is of course, unless something dramatically happens that spurs growth: a new invention or a dramatic change in the global economic or political situation. The latter does not necessarily need to be good news, as you might suspect. If such events would indeed happen, it could be a whole different ball-game.

Consumption and consumer behaviour

As I mentioned before, the economic growth in The Netherlands will probably only be moderate in 2014. At the same time, the general employment in The Netherlands will not grow yet and unemployment will probably even increase in 2014, according to the CPB.

It is without a doubt that these two conditions have impact on the general consumption in The Netherlands and – as a consequence – on the results of all companies (including the retail industry), that live from business-to-consumer sales (b2c). 

This means that for 2014, the economic outlook for small and medium enterprises and especially retail stores is moderate to poor.

To explain my point, I made a table of the forecasted Dutch consumption for 2014. 

My preassumption was that there are a few different groups of consumers in The Netherlands, with their own consumption patterns:

• The (financially) independent people (i.e. wealthy people), who earn sufficient income to do whatever they want – now and in the future;
  
• The people who have a fixed job and a steady income, but that are not 100% sure that their job survives 2014;
  
• The people, whose steady job is either on the line or who have a flex-contract with a high amount of uncertainty about their immediate financial future;
  
• Jobless people, who receive either unemployment benefit or welfare or freelancers without an assignment, who are living from their savings alone. 

Expected consumption patterns for different categories of consumers
Chart by: Ernst's Economy
Click to enlarge

Especially the first category of financially independent people has had a very good year in 2013, with the excellent investment results on the stock exchanges and the increasing profits of the larger companies in The Netherlands.

Therefore I expect that their consumption might soar in 2014, especially in the categories for expensive products and services. These people will be among the first to adopt a positive economic change with respect to next year.

However, it is my firm opinion that people, whose job could be on the line (category 2), will remain consuming cautiously with respect to expensive products and services.

Especially the purchases of new cars by this group have often been carried forward to 2013, in order to yet profit from (ending) tax breaks on environmentally friendly cars. This will have a definite impact on car sales in the first months of 2014.

The last two groups will carry on to consume only the products and services that they hardly can live without; all other kinds of consumption will be kept to the bare minimum.

This brings me to the following outlook for 2014: 

• Supermarkets and especially discounters, like Lidl, Aldi and Dirk van de Broek will continue to grab market share from specialized retailers, like greengrocers, drugstores, butcher shops and bakeries and from the more expensive supermarket chains as well.
• The price battle that started in 2013 (it is too small in size to call it a price war) will continue well into 2014, but it will not have a clear winner.
• Losers might be the suppliers and the supermarket chains whose margins are under pressure for various reasons.
• Outlet stores and other thrift stores (stores with cheap and / or second hand goods), as well as the most inexpensive online stores might flourish in 2014;
  
• The same is also true, however, for the very expensive retail stores, which sell the real premium brands to their exclusive clientele (i.e. Cartier, Louis Vuitton and other premium brand stores).
  
• The richest people in The Netherlands have only become richer during the last few years and especially in 2013, as this was an extraordinarily good year for the international stock exchanges. 

• All other (non-food) retail stores and store chains (online as well as brick-and-mortar) will go through a very hard time for the sixt year in a row, since the crisis started in 2008.

The stock exchanges

(Disclaimer: This is by no means an investment advice. As I don’t invest myself, there is none of my personal money on the line here. Therefore I don’t take any responsibility for people who invest, based upon my assumptions, as printed here)

It will be very hard to beat 2013, as an almost perfect year for investments in stock.

The companies, which are traded at the stock exchanges, are well on their way of getting overpriced in the current investment climate, as their profit outlook is still only moderate, according to me.

When the economic growth in 2014 will eventually disappoint (which it might IMHO), then there could be a fierce negative correction at the stock exchanges. For the AEX Amsterdam Index, I see 400-425 points rather as a ceiling than as a starting point for further growth of stock rates.

I therefore advice people to invest cautiously in stock and to be especially careful with social media stock: ‘new’ stocks, like LinkedIn, Facebook, Netflix and Twitter must still show that they have a sustainable future as ‘profit generators’. In my opinion they can't!

Popular does not necessarily mean profitable in this context and especially Facebook and Twitter run a severe risk of getting out of fashion within a few years. And even if the latter does not happen, it will nevertheless be extremely hard for especially Twitter to make any profit at all in the future:

• Asking money for the Twitter service is out of the question for now and for the distant future;
• Possibilities for advertising and data mining are reduced on this medium, due to the high numbers and rapid aging process of tweets. Sponsored tweets just disappear in the tsunami of other tweets.

I am less negative about the fixed income market. Although the interest rates on corporate bonds have been rising lately and have put the prices of corporate bonds under some pressure, the various interest rates in the EU and the US seem destined to stay extremely low for a long, long time (due to the deflationary forces that have been emerging the last few years).

On top of that, it seems that gold has finally had its ‘ ten years of fame’ and has returned to pré-2010 prices, only to go down further and further.

At the same time, there is a substantial chance for near-zero or even negative interest rates on sovereign bonds and T-bills from the strongest countries: a.o. the United States and Germany. 

These low yields on sovereign bonds from these investment grade countries will turn corporate bonds from respected and trusted companies into a good investment IMHO. This will probably mean that there will be an ample amount of relatively cheap investment money available for the large companies.

This money supply reduces the necessity for these companies to deploy bonds at higher-than-strictly-necessary interest rates, especially as a negative correction of the stock rates seems plausible in 2014. Consequently, it could be that the fixed income market turns from the loser of 2013 into the winner of 2014.

The banking industry

The Dutch banking industry still has to deal with two nationalized banks on one hand and a very negative image on the other hand. The latter has been reinforced in 2013 by:

• the nationalization of SNS Reaal;
• the Libor-gate affair of the Rabobank, followed by the initially indifferent reaction of this bank to this massive scandal;
• Rabo-CEO Piet Moerland, who was already months before his retirement, was sacrificed, but the main responsible for the scandal, Sipko Schat, stayed put initially, only to retire when his position was untenable eventually.

In the final months of 2013, there has been a fierce discussion between bankers, economists and politicians upon the leverage ratios, with respect to the balance sheets of banks. 

What made this very important discussion somewhat worrisome is how disinformed and pigheaded some of the protagonists in this discussion were.

Instead of looking for good and well-funded arguments to make a useful point, the discussion was often about bashing and punishing the banks for everything that went wrong in 2008 and in the years before that very moment.

The bank(er)s on their behalf kept pushing their arguments ‘that ‘2008’  was something of the past and that the industry had learned its lesson in the meantime’. In other words: ‘Stop bashing us!’ Both reactions seemed out of touch and (somewhat) naïve.

On top of that, there have been the overly emotional reactions of the general public towards banks and bankers, as well as the disconnected reactions of some bankers upon these public emotions.

These events all showed that the financial industry as a whole has some ground to cover, before the situation turns to normal again. I really doubt if this will already happen in 2014.

Besides that, there is the situation within the banking industry that successful and profitable investments – with a reduced level of risk – remain scarce these days: 

• Especially the demand, as well as the supply, for credit towards the Small and Medium Enterprises remains at a very low level. This will probably not change much in 2014; 

• While the SME companies are traditionally seen as the motor of the Dutch economy, this motor is yet faltering.
• Banks, on their behalf, remain busy with their battle for a viable margin and against bad investments.
• Their risk awareness is still 20 / 20 and they will consequently refuse to hand out credit to companies, which don’t have ironclad investment plans and collateral in exchange.

The building & construction, manufacturing and commercial services

Although there seems to be some movement in the Dutch CRE markets (commercial real estate), especially at the triple A-locations, it is yet too early to declare the crisis to be ‘finished’.

There is still an enormous excess capacity for commercial and office buildings AND building ground, as well as there is excess capacity within the construction industry itself.

Therefore I stick with my opinion that the capacity in the CRE construction industry should be reduced with at least 40%, in comparison with 2008. 

The longer that the government waits with deploying a master plan to enable this, the bigger the chance is that the market does it for them, with disastrous results for employment within this industry.

With respect to the residential building industry (RRE), the market forces will also rather be pointed downwards than upwards. 

When the government plans, to enforce billion euro levies upon the general renting market and especially the building cooperatives, will be taken into consideration and when we consider that the prices of owner-occupied houses are still dropping by 5% y-o-y, there is very little chance that the residential building industry will go through a real revival in 2014.

It could be that the bottom of the owner-occupied housing market is actually reached in 2014, but that is not yet certain, as deflationary forces seem very much at work in The Netherlands lately (see the aforementioned link). And when real deflation gets hold of The Netherlands, the dropping housing prices could last for a long, long time.

I am more optimistic about the manufacturing industry in The Netherlands, especially when it is specialized in business-to-business delivery.

While the consumption in The Netherlands remains awkward, the production of high-quality raw materials (a.o. high-quality steel), high-tech parts, semi-finished products and tools for other industries could profit from the slightly growing global economy and the stable demand for electronic gadgets and hardware-innovations.

Companies like Philips (especially the medical and lighting divisions), TomTom, ASML, ASMI, Stork, Ten Cate, VDL and ArcelorMittal and the high-tech companies in the Eindhoven region could strongly profit from the outstanding quality and extraordinary characteristics of their products in 2014, when the economy keeps growing indeed.

Within the commercial services industry, there is a division between the ICT / data driven services on one hand and the ‘normal’ transport & distribution and commercial services on the other hand.

Since a few years, The Netherlands is rapidly building upon a reputation as a stronghold for data hosting facilities, due to the excellent data infrastructure and the well-educated, multilingual population. 

Large data centers are emerging everywhere within the country and the demand for (private) cloud services is still rising rapidly. This development will continue in 2014 and could be a driver for high-tech jobs in The Netherlands.

This favourable trend has probably a lot to do with the ever-growing curiosity of the American government and intelligence services concerning the data collection of about any company and person in the world. 

Many companies feel probably, that when they store their data in The Netherlands (i.e. outside the US), it might be safer for the watchful eye of American government officials (which I really doubt, by the way).

Good examples of this development are the ‘gargantuous’ €2 billion datacenter that Microsoft is developing in the small Dutch town of Middenmeer and the various datacenters that have been recently developed in Almere. 

Data is hot in The Netherlands.

I am less optimistic about the normal commercial services and especially transport and distribution. These services will still suffer a lot from the diminished domestic consumption and exports and I have little reason to think that this will change dramatically in 2014.

The European Union and the Euro-zone

The euro-zone of 2014 will be just like the euro-zone has been in previous years: two steps forward and one step back. The European Banking Union was a sensible step, but it has not become what it should have been yet.

While the need for further political, economic and financial integration within the EU stands tall, in my opinion, there is still the growing aversion against the EU among the European population. 

Many Europeans want to stop any further integration of the EU and the Euro-zone and the parallel trend of growing xenophobia won’t stop yet in 2014. 

Therefore, I called it a blessing in disguise that the integration of the Ukraine with the EU was stopped, although I feel very sorry for the many Ukrainians, who put their money on the EU.

The best what can happen in 2014 is that:

• the EU and the Euro-zone first try to cope in a good way with the Rumanian and Bulgarian workers that are now free to work all over Europe;
• the EU figures out how the economies of the impoverished and shell-shocked EU countries can be moved into action again;
  
• This is of imminent importance for the PIIGS  (Portugal, Ireland, Italy, Greece and Spain) and the Eastern European countries, but also for the North-Western EU countries and especially France, which need the economic impulse as well. 

In other words: instead of thinking about expansion of the EU, the EU should work upon economic and political improvement of the EU in its current form. 

That will be a helluva task for the whole EU in 2014, especially as the member-states still behave like 28 frogs in a wheelbarrow and refuse too often to look at the common benefit.

And now, I have finally nothing left than wishing you – my dear readers – the best for 2014: may it be a healthy, loving, prosperous and successful year for you and your loved ones.

Ernst’s Economy: The outlook for The Netherlands for 2014; Pt I

all this time

spinning round and round

made the same mistakes

that we've always found

The Beloved – Sweet Harmony

Looking back at 2013

Today is a good time to take a brief look back at 2013: the final days of the year are (almost) done.  At the same time, it is a good day to look forward to the next year. Therefore I will do both in this article, that will be split up in two parts.

Saying that 2013 has been a wild ride, would be an understatement.

While the global stock exchanges celebrated one peak after another (also in The Netherlands), high as they were on their QE-drugs, the situation in the real economy deteriorated rapidly in The Netherlands:

• There was a surge in negative consumer confidence;
  
• The unemployment soared in the early months of 2013, after the relatively calm year 2012;
  
• There were soaring numbers of people and companies that were (on the brink of) defaulting;
  
• Some strong and financially healthy companies and government organizations have been choking their suppliers, by paying their invoices ever later, while having at the same time more and more demands towards the same suppliers;
  
• The personnel of similar companies has also been under increasing pressure of achieving more ‘at gunpoint’ for the same wages or less: “you’re up or you’re out!” is the new slogan of a large bank in The Netherlands;
  
• There was the fall from grace of the Rabobank, which turned The Netherlands’ formerly most trusted bank into ‘a bunch of cheap frauds’;
  
• There was the downfall of former ‘darling of the stock exchanges’ Imtech and the nationalization of SNS Reaal;
  
• There was also deteriorating mood among the Dutch people, causing them to be more nationalist, more chauvinist, more N.I.M.B.Y. and more aggressive against government officials (policemen, firefighters and paramedics) and especially the European Union, which is increasingly seen as the root of all evil;
  
• The European Union itself is still hanging on by a limb. 

Still, there were events in 2013 that were binding the whole country, including almost all its citizens:

• The abdication of Queen Beatrix and the coronation of King Willem-Alexander;
  
• The public outrage against Russia’s new law against LBGT (lesbian, bisexual, gay and transgender) people and (again) Russia’s treatment of the Greenpeace activists;
  
• The public grief after the death of Nelson Mandela;
  
• The achievements of the Dutch football team ‘Orange’, which was qualifying for the Football World Championships in Brazil for 2014. 

On a personal level, 2013 has been not a bad year: until now, my company survived the crisis and there is plenty of work to be done at an assignment that I love, albeit at a lower salary.

And the most important thing: my loved ones and family are all healthy and happy. That is something that I really cherish in times like these.

Outlook for 2014

Politics

Perhaps one of the surprises for me was the fact that the ‘handicapped’ Cabinet Mark Rutte II (VVD/PvdA), with its minority in the Dutch Senate (‘First Chamber’) and its quartet (cardgame) government agreement  (“this policy is for you and that policy is for me”), has actually survived 2013.

To put it even stronger:  it seems more and more that the cabinet – after a shaky start – is now finally on the road to reforms, although it are often the wrong ones:

• The reforms of the Dutch housing market are mainly striking rental housing and hit especially the building cooperatives – who have to enable affordable social housing – full frontal:
  
• Tenants that are just too rich for receiving rental subsidies, but still too poor to buy a house will get the painful blows of this policy, as their rent is rising, with little or nothing in return;
  
• Besides that, this was nothing more than an ordinary tax increase, in order to replenish the state’s treasury. It won’t do anything for the housing industry at all;
  
• From 2014 on, the Mortgage Interest Deductability will be reduced to 38% from 52% with steps of 0.5% per year. In ‘just’ 28 years (!), this legislation will be in total effect. This is about the same as doing nothing;
  
• While the sales numbers of housing are slightly increasing, the sales price dropped by 5% year on year in November, showing that the measures of the Cabinet Rutte didn’t hit target at all;
  
• The building industry, especially for Commercial Real Estate (and to a lesser degree Residential Real Estate) is almost left unchanged in 2013, as no significant policy is deployed: something that the cabinet could and (IMHO) should have done:
  
• While the outlook for 2014 is ‘shaky’ at best for these industries, the cabinet missed the opportunity to do something about the structural overcapacity in this industry;
  
• The Dutch cities and municipalities are still sitting on billions of Euro’s in excess building ground, that has been bought in anticipation by these municipalities of a revival of the Dutch ‘building frenzy’. The Dutch taxpayers are always the ones to foot the bill for this foolish policy.
  
• The reforms of the labour market by Rutte II made it somewhat easier to dismiss workers;
  
• At the same time it is has become easier for these (often older) workers to fight their dismissal legally, now that they received the right to appeal against the decisions of the cantonal judge, where they could not do so before. Theoretically, this could lead to dismissal cases that will drag themselves along for years;
  
• Although the (often much younger) flex-workers got better protection from the government on paper, in reality this protection will work out the wrong way, due to the circumstance that these flexworkers will now probably be fired before the end of their final flex-contract;
  
• The effect of the current labour legislation is:
• There is a group of (often older) workers that enjoys a. still strong legal protection and b. the almost exclusive blessing from the labour unions (as these older workers are almost the only members);
  
• The younger workers have almost no legal protection and no job security at all. This situation will probably not change until the economy improves strongly or until the people, who are now in their forties, finally retire;
  
• The reforms of the Dutch pension system seem rather targeted at saving a lot of tax money, instead of making the pension system more robust for the future:
  
• The number of build-up years will be increased to a maximum of 47 years (20- 67) in 2014,  where it has been 40 years ( 25-65 yrs);
  
• At the same time, the maximum annual build up percentage –for the second pillar of the Dutch pension system – will be decreased to 1.875% in 2015 from 2.25% (based upon a median wage pension);
  
• Although somebody can theoretically build up the same pension as today’s retirees, this will be impossible for many workers: especially the ones who start working at 25 or older (for various reasons); 

You definitely can’t accuse the Rutte / Asscher cabinet of sitting on their hands. That is good news. 

Nevertheless, the policies deployed by Cabinet Rutte are not the kind of policies that will either spur the Dutch economy or at least the consumer confidence in 2014. That is the bad news.

My complaints that the Cabinet Rutte does little or nothing about better education in The Netherlands and little or nothing about developing special policies for the manufacturing industry and the financial, commercial and ICT services industries are still intact, unfortunately.

I have also mixed feelings about the impression that The Netherlands makes within the European Union:

• Jeroen Dijsselbloem is improving as chairman of the Euro-zone and the European Banking Union – in spite of its limited range and cautious goals – is indeed a success for him;
  
• However, the utter lack of vision of Mark Rutte and his lack of will to help the other, less fortunate countries in the European Union with rebuilding their economies, makes that The Netherlands is rather a mill stone than a catalyst for the economic development of the EU. 

Summarizing, the current Cabinet Mark Rutte will not be the factor that helps the Dutch economy to improve strongly in 2014. This is one of the reasons that I don’t expect strong economic improvement in that year.

Employment and Unemployment

Whatever happens: 2014 will not be the year of the employee and Captain Entrepreneur won’t save the day as well!

According to the Central Planning Bureau, the unemployment will rise in 2014, albeit not so strong as in the disastrous year 2013. 

I happen to believe them when I look at the current consumer confidence and  take into account the hard times that the Small and Medium Enterprises are going through currently.

Yes, there are some greenshoots in the economy and yes, the labour unions are aiming at a 3% wage increase as a starting point for negotiations in some industries.

Nevertheless, the vast majority of workers will only receive a wage increase well under the official inflation rate or they will receive no wage increase at all. Some unlucky people will even get a wage DEcrease, as their cash-strapped employers can’t or won't pay their full salaries anymore. 

Unfortunately, I know first hand that this is not a figment of my imagination. 

People, who are looking at the (record-high) stock exchanges as a predictor for emerging economic growth and employment growth in 2014 could be gravely mistaken. 

Apart from the fact that perhaps much of the increased production capacity at manufacturing companies will be used for the creation of stockpiles, it remains of course the question who is ultimately buying those stockpiles.

Companies, specialized in b-2-b (business to business) delivery and services might show good results at this moment, but it is ultimately the b-2-c (business to consumer) sales that should really spur economic growth, except for increasing exports.

Lately, there are signs that the consumer confidence is increasing marginally and the Central Bureau of Statistics (CBS) stated ‘cheerfully’ that ‘the decline of household consumption is slowing down’. Perhaps, the latter is caused by the circumstance that consumption can’t further decline anymore (to make a bold suggestion)?!

The big question remains: if the exports probably won’t spur economic growth and increased employment (see the second part of this article tomorrow) and there probably will not be structurally increased production and consumption to spur economic growth and increased employment, what WILL spur economic growth and increased employment in 2014?!

Asking the question is answering the question!

In the meantime, the situation for fixed and flexible personnel is not improving at all:

• As mentioned before, a very large bank has as a new slogan: you are up or you are out!Although I am generally in favour of the idea that people must constantly educate themselves in order to stay competitive, I don’t like the senseless aggression in this slogan of ‘education at gunpoint’.
  
  Some people are very good at their job and their work is still in high demand within their employer’s company. Why would an employer force such employees to change in something that they don’t want and in which they are no good at all?
  Many workers flourish in a constantly changing environment, but many other workers flourish in a fixed environment with stabile work and a stabile workload. You need both categories of workers, although the second category is not as ‘sexy’ as the first category.
  By the way, this same bank, just like many other banks, has strongly forced down the remuneration for their contracted workers during the last few years. In this case it was not ‘you’re up or you’re out, but you’re down or you’re out’.  Their (much less powerful) suppliers signed these contracts toothgrindingly, as less money is still better than no money at all!

• Yesterday, the paper version of Het Financieele Dagblad (FD) printed an Op-Ed, with the following quote in it: ‘flexworkers enter four times more often into the Unemployment Benefit as workers with a fixed job and 20% - 25% of workers has a flexible contract these days’. Are these the people that are going to save the economy in 2014?!
  
• Also yesterday, in the same FD newspaper, the former CEO of Sodexo, a large employer for catering and facilitary services, repudiated the plan of the Dutch government to offer their cleaners and facilitary employees a (fixed) contract with the government itself: “This is a hobby of the PvdA (Dutch labour), but an expensive one: the costs of it are 20% to 30% higher”. 
  
  In other words: as the Dutch government is definitely not planning to pay ‘top dollar’ for their ‘new’ employees, you could come to the conclusion that the normal employees of Sodexo are probably underpaid by 20% to 30%. 

Among many employers, there is still too little respect for their workers, irrespective whether these are fixed or flex workers. Workers that don’t feel appreciated by their employers probably won’t bring more dynamics into the economy.

Fortunately, this is not how all employers think about their personnel. The best employers see their workers as the reason for their success and appreciate them: in words and in money.

Still, in my opinion this is not common among the employers in 2013 and this probably will not be common in 2014.

Ernst’s Economy in discussion at BNR Newsroom: Investigating the downfall and nationalization of SNS Reaal, pt II

This is the second part of my blog, dealing with the last BNR Newsroom of 2013, in which the downfall and nationalization of SNS Reaal was discussed with a number of experts from politics, the banks and universities.

In the second part, the guests were: 

• Arnoud Boot, Professor Corporate Finance and Financial Markets of the University of Amsterdam;
• Michiel Scheltema, lawyer and chairman of the committee, which investigated the downfall of DSB Bank;
• Wouter Koolmees, politician of the D66 progressive, liberal party in The Netherlands.

Paul van Liempt was of course the distinguished and savvy anchorman of this BNR Newsroom.

Paul van Liempt, presenter of BNR Newsroom
Photo copyright of: Ernst Labruyère
Click to enlarge

The interview with Arnoud Boot, Wouter Koolmees and Michiel Scheltema

Paul: Michiel Scheltema, do you see parallels between the downfall of DSB Bank and that of SNS Reaal?

Michiel: The lack of coordination during the rescue of SNS Bank, was something that I was familiar with in the days of DSB Bank. Also at DSB Bank, coordination was very hard to find.

The cooperation between De Nederlandsche Bank (Dutch National Bank) and the Finance Ministry was already better during the nationalization of SNS Bank, than it had been in case of DSB.

By the way, DSB should never have had their banking license, as there was too little counter weight in place against ‘the powers that be’ at the bank (i.e. Dirk Scheringa). 

The commercial pillar of the bank was strong, but the financial and prudential supervision was very weak. DNB can be blamed for the fact that they did give the banking license to DSB after all. On top of that, even after the banking license had been handed out to DSB, the supervision by DNB remained poor.

This SNS case does bring back memories from the past.

Michiel Scheltema, Chairman of the
investigative committee for DSB Bank
Photo copyright of: Ernst Labruyère
Click to enlarge

 The current supervision has become much stronger, with Klaas Knot at the helm of DNB. Expertise in banking affairs became much more important. DNB sends its people to meetings of the Board of Directors of the big banks, as a matter of fact.

Paul: Are there really improvements in the supervision at the moment, Arnoud Boot?

Arnoud Boot:Definitely! Something has happened, of which many people thought it couldn’t happen. The crisis showed us that many things can happen within the banking industry. 

This industry has the ability to shipwreck the whole economy. The problems, which started in the US, could plummet the whole financial industry. 

Nout Wellink admitted eventually, that he didn’t see things come. This was actually true for the whole industry and for almost all worldwide supervisors.

The banks came out of the dotcom crisis remarkably well, in contrary to the stock exchanges, which lost a massive amount of money, and the insurance companies. Consequently, the supervisors thought that the banking industry had found a new and succesful business model, which protected them from harm.

The policy makers thought that the banking industry was ruled by a new paradigm, since 2002. By removing products from the balance sheets and selling the risks to the market, through securitized debt obligations, people thought that the risk profile of banks had become fundamentally lower. 

However, as a consequence of the deployed warrants, the risk came knocking at the backdoor of the banks.

In contrary to today, people and supervisors thought that securitization would lower the risk for the banks.

Ernst: What astonished me, was that certain securities and collateral were on the balance sheets of banks, against (nearly) 100% of coverage value. I am talking about collateral like mortgages and sovereign bonds of countries in the Eurozone. Was not something really wrong with the risk awareness in those days?!

Arnoud: This was the Euro-experiment at work, with dogmas like: 

• The Eurozone is stable; 
• We mutually trust our governments and act friendly to each other; 
• We don’t steer too much upon rules. 

The result of this was, that not putting the sovereign bonds of the euro-zone countries on 100% coverage value, would be seen as an act of mistrust.

The fact that sovereign bonds from all Euro-zone countries were put on the balance sheet against 100% coverage value, came from the dogma that the mutual creditworthiness within the Eurozone should not be doubted at all. This was actually a political compromise and very naive in hindsight.

Ernst: But were not ALL securities and collateral overvalued in those days?!

Arnoud: That might be true, but at least the other securities and collateral were subject to certain capital demands.

What was in fact counterproductive, however, was that Basel II alowed that the own rating models of the banks were used for the valuation of securities and collateral. 

In other words: banks were allowed to decide themselves, how much money they lended on the securities and collateral that they received from their customers. These models were fundamentally wrong, however.

Arnoud Boot, Professor Corporat Finance of
the University of Amsterdam
Photo copyright of: Ernst Labruyère
Click to enlarge

First: Some things were missing in those models that were important in hindsight.

Second: There had been a stable period of ten years. After such a long period, all risks will be underestimated by the people involved. Every parameter in the large banks' valuation models underestimated those risks.

Third: The fundamental conceptual flaw of these models was, that spreading risks does not matter anymore in times of crisis. All risks go in the same direction actually: down the drain! 

These models were based on the concept that – as a consequence of diversification and spreading risks – the risks would eliminate each other. This works fine, except… when it is really necessary: in times of crisis!

Paul: How do you judge the call for more measures and better supervision in politics these days.

Arnoud: The reason that we are now in a crisis, is that politicians massively subsidized debt before the crisis occured: 

• through the Mortgage Interest Deductability (MID) in The Netherlands;
• through the National Mortgage Guarantee (NHG); 
• and through allowing Jumbo mortgages with a 125% loan-to-cover value ratio. 

You were actually “robbing yourself”, when you didn’t have a jumbo mortgage with 125% loan-to-cover ratio and NHG, as the government gave you such big tax breaks for it.

Politics did nothing in the fifteen years before the crisis started. Of course, politicians are right, when they state that DNB supervised insufficiently and that bankers can be blamed for the crisis. However, they are guilty as well. 

The ’mountain of mortgages’  was actually created by the government.

Wouter Koolmees: I agree with the analysis upon the MID. Stimulating debt had been the bedrock of the government for a long time.

The same mechanism was in play, at the time of the so-called “Loan Shark policies”: “fiscal friendly” policies from insurance companies, which carried such high expenses, that it was virtually impossible to build up a decent lump sum amount with those. 

The Dutch government actually created the fiscal framework that enabled such loan shark policies.

The fiscal stimulation of debt has been the starting point of the government. This also had consequences for the balance sheets of the banks. And now everybody is deleveraging: the banks, the government and the citizens. 

This will take a long time to do and it will hurt deeply.

Paul: Is it enough that we make the supervision upon the banks more strict? Or is it only the starting point of a solution?

Wouter: The most important thing is that banks have more capital and buffers, in order to be able to fight a series of misfortunes. As a state official at the Dutch finance ministry, I had to deal with ABN Amro and ING Bank.

Wouter Koolmees of D66
Photo copyright of: Ernst Labruyère
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Especially ING was a special case. This bank almost defaulted as a consequence of a relatively small portfolio of American Alt-A mortgages; (only)to the tune of €25 billion. This bank had simply too little capital and buffers to be able to deal with a relatively small financial blow.

Paul: Dolf van den Brink, according to you the capital buffers were not the most important problem, right?!

Dolf van den Brink: That is more or less correct. More than a 4% capital ratio is not necessary, in my opinion. The main problem of the banks resided on the DEBIT side of the balance sheet, where the loans and collateral are managed. 

In the past, even banks and financial institutions with a capital ratio of 35% defaulted, like for instance the Nederlandse Handels Maatschappij. Even with a very high capital ratio, you can take so much risk – during the hunt for yields and margin – that you might default anyway. That happened in the past.

Arnoud: The risk on the debit side (i.e. the quality of the loans) should be mitigated, as a small capital ratio is then not that important anymore. We are in favour of bringing the current banks back to the core of banking: knowing your customer and knowing his needs! Then there is no room for opportunism anymore.

The intrinsical opportunism in transaction-based banking – with its strong attachments to the financial markets and its lack of customer-knowledge – changed the risk profile of banks so much, that it turned them into time bombs.

A sufficiently high capital ratio alone is then not enough for mitigating the inconstancy of the financial markets. You have to fight the inconstancy itself, in order to prevent the downside risks on the debit side of the balance sheet from coming in play.

Summarized: you should not have too much risk at the debit side of the balance sheet and – on top of that – you should have sufficient capital on the credit side of it, in order to mitigate risk.

Paul: Is that the core of banking, Michiel Scheltema?

Michiel: I do very much agree with this. And the relation with the customers of the bank should be the core of the bank philosophy AND strategy. 

Banks must realize how society is thinking about their modus operandi. Banks do not realize sufficiently what their customers want. In meetings of the Board of Directors, the subject should be more often ‘the customer’.

Paul: Are you pleased that De Nederlandsche Bank is visiting boardroom meetings these days?

Michiel: Definitely. The younger generation is also much more aware of the necessity of a customer-centred policy. However, many banks are acting too defensively yet.

Arnoud: We have been talking about models. Models are meant as input for the decision process; they are not the decision itself. 

The decision itself must be based upon judgment. That went wrong at SNS Reaal, with respect to the supervision of DNB. DNB should have asked SNS: “What if the value of SNS Property Finance would be cut in half, how you are going to deal with that?!” 

The whole idea that the models worked fine during the crisis, is a misconception.

An important question is, how a bank can regain the trust from society. ING, for instance went much more into a dialogue with society than the other banks. That dialogue is crucial.

Michiel: If we don’t want to have a "choking" banking regulation and supervision, with 0% room for innovation and improvisation, then the banks should develop new and innovative products. 

And these products should be made with the interests of the customers in mind. That innovation is very necessary for the banking industry.

Wouter: A lot happened during the last five years: from Europe as well as national politics. Still a lot must be done, with respect to putting the customer in the centre and increasing the capital ratios of the banks. Still, there has definitely been progress in the process of protecting the customer.

The ban on commissions, which were only rewarding the sellers of products, is such an example. However, bankers and politicians are not the only guilty party in this crisis. That would be much to simple.

Ernst: The banking industry is in a split position currently. At one hand, politics is busy with mitigating risks within the banking industry. At the other hand, the same politicians are lobbying for handing out more loans to Small and Medium Enterprises (SME). These two goals can’t be combined at the moment, as most SME companies have a poor health currently, right?!

Wouter: That is indeed a devil’s dilemma. And there is actually little demand for credit now, as the economy is doing poorly. Still, we think that banking should become safer. There are many good reasons to build up solid capital buffers, in order to prevend 2008/2009 from happening again. 

Ernst’s Economy in discussion at BNR Newsroom: Investigating the downfall and nationalization of SNS Reaal, pt I.

Last Monday, on 17 December, I was present at the last episode in 2013 of BNR Newsroom. This is the semi-live talk radio show of BNR News Radio, hosted by my good friend Paul van Liempt.

The official microphone of BNR Newsroom
Photo copyright of: Ernst Labruyère
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This week’s subject was the downfall and nationalization of SNS Reaal: the Dutch bank-insurer that found its Waterloo at the beginning of 2013 and was subsequently nationalized by the Dutch state, represented by Finance Minister Jeroen Dijsselbloem (the article behind the link contains links to the other articles upon this subject).

The reason for this subject of BNR Newsroom was a joyful event: the official presentation of a non-fiction, investigative book on SNS Reaal’s downfall, by five journalists from Het Financieele Dagblad. This presentation would be a part of the program.

In the introduction to this event, Paul van Liempt interviewed two of the five journalists: Cor de Horde and Pieter Lalkens, who wrote the book in cooperation with Martine Wolzak, Pieter Couwenbergh and Vasco van der Boon.

FD Journalists Pieter Couwenbergh and Pieter Lalkens (right)
Photo copyright of: Ernst Labruyère
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The second guest of this evening was Dolf van den Brink, the former Chief Information Officer of ABN Amro and current Professor Financial Institutions at the University of Amsterdam. The interview with him lasted until the half hour break of BNR Newsroom.

Tomorrow, the second part of the show will be printed on this blog.

Interview with Cor de Horde and Pieter Lalkens of Het Financieele Dagblad

Paul: Cor, what was for you the most important discovery, with respect to the downfall and nationalization of SNS Reaal? 

Cor: That the rescue process was such a mess. You think that everybody is working cooperatively, in order to rescue the bank: SNS, the Dutch finance ministry, Brussels and De Nederlandsche Bank. However, we found out that this was not true at all. 

Everybody was riding on his own track, without ever coming together for the benefit of the bank.

Paul: There wasn't a conspiracy going on at SNS, right?

Cor: No indeed. Tell me, when was there ever a conspiracy in such cases?!

FD Journalists Martine Wolzak and Cor de Horde right)
Photo copyright of: Ernst Labruyère
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Paul: Pieter, what was your biggest discovery?

Pieter: That the contacts with Brussels were arranged and upheld by the Dutch Finance Ministry alone and that nobody else knew what had been going on between these parties: that includes DNB and the big banks. The big banks were actually willing to help in those days, but they were kept 'out of the loop' for (decisive) weeks.

At one time, it seemed that the Dutch Finance Ministry had gotten a commitment from Brussels for a certain plan; they worked on that plan for weeks, only to be informed by Brussels that the plan was not allowed after all. Such things made it very hard to work with the European Commission.

Paul: Did you notice during the creation of your book, that people tried to hide against the circumstance that some events took place quite some years ago?

Pieter: When you talk about the SNS case, you are talking about commercial real estate (CRE). In the early eighties, we already had our share of commercial real estate problems in The Netherlands [Pieter is here probably referring to the downfall of Slavenburg Bank in the eighties, due to CRE investments gone awry. This bank had to be taken over by Credit Lyonnais in order to be rescued - EL].

However, it seems that this information is not shared between generations, resulting in it that SNS made the same errors once more. Generations seemingly don't want to accept information and good advice from each other and want to make their own errors, instead of listening.

Paul: Sjoerd van Keulen once said the same thing, right? Still, IMHO he made a U-turn a few years ago.

Cor: Yeah, that was really funny. When he was in his rookie year as CEO, he said once at a press conference that people often forgot about the past. A bank should better not consider an IPO at all, because of the short-term decisions and focus and the lack of contemplation among stock funds. 

As an ex-Fortis man, he knew what he was talking about. Unfortunately, he didn't take his own good advice to heart after all.

FD Journalist Vasco van der Boon
Photo copyright of: Ernst Labruyère
Click to enlarge

Interview with Professor Dolf van den Brink

Paul: Dolf, you wrote last week in the FD that the solution for the banking industry does not lie in the capital ratios, but in the management of the banks, right? How are the managers of the banks doing right now?

Dolf: As far as I can see, from my relative outsider's position, they are doing much better now, but there is still much work to be done.

Paul: What went wrong in the past and what is going better now?

Dolf: In the past, there have been too many people from outside the retail banking industry, that didn't know the core business of retail banks... at all. 

These people either didn't come from the banking industry at all or they came from investment banks, which is a whole different ball game.

Paul: What went wrong with such people at the helm?

Dolf: These people were much too opportunistical to handle the interests of these 'bulk tankers' of retail banks. These retail banks have to be governed with a long-term vision in mind: with a rock-solid, prudent and conservative approach, instead of an adventurous one.

Instead these people were steering these bulk tankers like a speedboat - like investment bankers.This resulted in it that the universal banking community lost the right track for retail banking.

Paul: Lately, a generation change took place within the banking industry. This new generation has the courage to bank conservatively again, as they don't feel forced to start crazy adventures in order to get shareholder value. Do you agree with that?

Dolf: We have to see that. There is a lot of uncertainty in the market. There is not much demand for banking activities at all. Many customers of the banks are caught in a financial trap currently and don't want to have loans at all. 

Things will become interesting, when the economy becomes healthier again. Then we will see what we learned from the crisis.

Professor Dolf van den Brink of the University of Amsterdam
Photo copyright of: Ernst Labruyère
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Bankers need to realize that they are working with other people's life savings and deposits. These people always want to have their money back. At the other side of the balance sheet, these bankers have to help people with developing viable business models and they should make money in the process. 

Consequently, a banker should aim at a long-term relationship with both these customer groups.

Ernst: Should the banks not start with paying a decent interest rate to their customers? At this moment the interest is often less than 1%: you could almost say that the money is for free. This is not helpful at all for the risk awareness of the bankers!

Dolf: It depends whether you mean long-term or short-term money. On long-term money, we pay more interest and a better margin than in the good old days. 

And as far as short money concerns: the banks didn't put the interest rates close to zero. That were the central banks.

If the banks would pay too much margin on top of the Euribor interest rate, they would make a bad deal for themselves. They don't ask  much interest from their borrowers either, on short-term loans. Banks must live from the margin that they make between borrowing and lending. Besides that, at the Central Banks they don't get interest at all for their deposits.

Paul: Will there ever be negative interest?

Paul van Liempt, presenter of BNR Newsroom
Photo copyright of: Ernst Labruyère
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Dolf: It could be. Luckily, we don't have experience with that in The Netherlands. On the other hand, I'm not optimistic about the business cycle that the world is in currently. Negative interest would be an "interesting" experiment for us. Anyway, a deflation scenario is no good news.

Ernst: That was exactly my question. The fact that people are speaking about negative interest currently, isn't that a proof that we indeed entered an era of deflation?

Dolf: You can blame the banks for a lot of things, but not that they caused deflation. A bank is an intermediary; between people and companies, that have excess money and people and companies that need money. They try to make a margin between the credit and debit side of their balance sheets. You neither can blame the banks for deflation nor for hyperinflation.

Paul: Did the situation at SNS shock you?

Dolf: Undoubtedly, you are referring to the fact that I've have been commissioner in the Supervisory Board at Bouwfonds [the real estate company, of which the subsidiary Bouwfonds Property Finance was the root cause for the downfall of SNS Reaal - EL]. 

That is a long time ago. I have been commissioner for about a half year. To be frank, I didn't have a clue about what was going on at Bouwfonds. And the specialists that held a 'due diligence' investigation at the time of the takeover bid, seemingly also have been clueless about the abuses that took place there.

Paul: Didn't people speak about the risks that ABN Amro took, when it took over Bouwfonds?

Dolf: Yes, of course we sent a number of specialists to Bouwfonds to perform the due diligence investigation. I have not been involved further, as my focal point was ICT in those days.

Just by coincidence - Rijkman Groenink, the CEO of ABN Amro was abroad for a brief period of time - I have held a speech at the shareholders' assembly of the Bank Nederlandse Gemeenten (BNG | i.e. Dutch Municipality Bank - the former founders and owners of Bouwfonds Nederlandse Gemeenten, as it was called in those days).

At this assembly, I've told the shareholders about how good it was that ABN Amro took over Bouwfonds. 

I had not taken further knowledge of the files and data of Bouwfonds in those days. The only thing that I did was playing stand-in for a colleague, who was abroad. 

The outcome of this assembly was clear in advance: the BNG - and its shareholders, the Dutch municipalities - were extremely pleased to sell Bouwfonds to ABN Amro, as we paid a very good price. We didn't have a clue about what was going on: had we known of this, the deal would have been off, of course.

Paul: Isn't that strange that people, who should have had expert knowledge about banking and financial issues, were so utterly clueless about what happened at Bouwfonds?  

Dolf: That was a lesson learned. At the bank we didn't know a thing about commercial and residential real estate. I have been brought up by people, who stated: "We should stay away from real estate, as we know too little about it". This saved us a lot of trouble in the seventies and eighties: times in which ABN Amro didn't squander one penny in profit losses on real estate. Unfortunately, we had forgotten those wise lessons in the nineties.

Professor Dolf van den Brink of the University of Amsterdam
Photo copyright of: Ernst Labruyère
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Paul: Is it not too easy to state it in such a simple manner?

Dolf: There was a new generation in those days. I had never been involved in real estate myself, due to my mentors at the bank.

Paul: What was your idea in those days? Something like "We are going to make a lot of money on real estate"?

Dolf: In the eighties, Bouwfonds had an ironclad reputation as being THE experts in the area of commercial and residential real estate. We felt that real estate was a risky business, but we trusted Bouwfonds for their conservative, no thrills, way of doing business. In the eighties, this kind of mischief didn't take place yet. That started in the nineties and we didn't see that.

Paul: Bouwfonds always wanted an independent position for their business, right? My FD colleague, Pieter Couwenbergh, has written a column last Saturday, in which he concluded that this kind of independence often leads to trouble. Is that not one of the lessons learned?

Dolf: In those days, the policy at ABN Amro was that large business units had to take care of themselves. We did so for instance with the Bank of Chicago. 

When we bought this bank, we positioned a few supervisors there, but let them further run their own business. This led to an enormously successful sale a few years later: we made a profit on that sale, which multiplied our investments in this bank.

We presumed that the involved people of Chicago and (in this particular case Bouwfonds) knew their business much better than we did at the time. In general, we fared well through this policy.

Paul: Really?! There have actually been some accidents, as a consequence of this policy! Should we not choose for a model with much closer guidance, when such companies want to be independent: with people of the bank at pivotal positions?

Dolf: Pivotal positions? In those days the director-general of ABN Amro became the new CEO of Bouwfonds. And as a matter of fact, the ABN Amro didn't lose money on Bouwfonds.

Paul: Now we come to SNS. What should happen with this bank? Should we denationalize it and bring it to the stock exchange? Or should it remain a state bank in years to come?!

Dolf: In the parliamentary commission that investigated the issues in the banking industry, and in which I was heared, I pleaded on behalf of ABN Amro (and consequently also for SNS) that it would be unwise to sell this bank at short notice. The financial data from these banks discloses that they are still 'banks in distress' and a lot of things should happen there (especially at SNS).

On top of that, there is the issue that SNS is a bank-insurer at the moment. The split-up of the bank and the insurance companies will cause a lot of extra work, which should be done before the bank can be sold to another party or at the stock exchanges. Before this is over and SNS bank has stabilized again, we are ten years ahead in time. 

The same is true for the financial markets: before all the uncertainties have disappeared from the financial markets, you are again five to ten years ahead in time. We should wait for a long time with selling these banks: at least five to ten years.

Paul: Is SNS large enough to operate as an independent bank?

Dolf: Not as an independent fund at the stock exchanges. SNS is too big to be a niche player and too small to fight the other banks through economies of scale. It could be a possibility to sell this bank to a foreign bank. BNP Paribas could be one of the options.

I seldomly comment the answers and remarks of the guests in BNR Newsroom, especially in such sensitive topics as the downfall of SNS is.

These people had the courage to step forward and give their side to the story. Had they not done this, then we would not have known it at all, or only in a very politically biased version: especially when politicians, with their soundbites, are involved.

Still, I got an obnoxious feeling from the statements by Professor Dolf van den Brink, in his role as ABN Amro executive: especially the ones concerning the takeover of Bouwfonds by ABN Amro.

Summarized, to me these statements sounded like:

• I didn’t know anything about Bouwfonds at the time that ABN Amro took the company over;
  
• I didn’t care much about Bouwfonds, during the takeover by ABN Amro, as it wasn’t my duty to care about Bouwfonds;
  
• I was only a stand-in for Rijkman Groenink during the takeover of Bouwfonds. My promotional story about Bouwfonds to the shareholders of the ‘Bank Nederlandse Gemeenten’, was nothing more than propaganda for people, who wanted to sell Bouwfonds anyway, at the price that ABN Amro offered;
  
• The experts, who performed the ‘due diligence’ investigation, seemingly also were clueless about Bouwfonds, in spite of their research;
  
• Frankly, we – as ABN Amro - didn’t know one rat’s behind about Commercial and Residential Real Estate, as our predecessors had warned us for this business in the past and made us stay out of it;
  
• Nevertheless, we thought that we could make money with CRE/RRE and that Bouwfonds was the right party to do so, as this company had been very sound and conservative in the eighties (!). We were unaware of the fact that things had dramatically changed in the meantime;
  
• When we had taken over Bouwfonds, we gave them all kinds of freedom to do business in the way they wanted. Lucky enough, they didn’t mess it up much, with ABN Amro at the helm;
  
• Summarizing, we – as ABN Amro – have been very lucky to not lose an enormous amount of money on this company. SNS Reaal pulled the losing straw; we didn’t. Lucky us! 

It might be that Professor Dolf van den Brink is not very happy about this summary of mine, but these are the signals I received from him during BNR Newsroom.

And I print these signals for the purpose of informing you, my dear readers.