German banks face tough times

In an unusual deal, Deutsche Bank, HypoVereinsbank, Dresdner Bank, Commerzbank and DZ Bank are forming a joint venture with state-owned Kreditanstalt fuer Wiederaufbau.

The venture will hold a fund - worth up to 50bn euros (�35bn; $54bn), reports have said - in investment-grade loans.

This fund will then be chopped into pieces and sold on to investors as bonds, a process known as securitisation.

Although the German authorities have been keen to stress that this is not a bail-out, it is a sign of the depth of the difficulties that have afflicted the sector since the German economy started slowing down two years ago.

Balance-sheet boost

The banks have refused to confirm how large the securitisation deal will be.

But they said the project would shift sufficient risk off their books to allow them to step up lending to small- and medium-sized German companies.

Many German firms have complained that the current weak state of bank finances has made even routine loans dangerously hard to secure.

The government is concerned that this will, in time, drag down the economy, which has flirted with recession since last year.

The finance ministry said it was considering a tax break for the venture, which is currently somewhat tricky to structure under German law.

Safety in numbers

Securitisation can be a useful way of making unreliable financial assets more attractive to investors.

A credit-card company may face considerable risk from each individual unsecured card loan, for example.

But when those loans are bundled together into a fund, the risk of serious default is diminished, and the card company is able to sell off bonds backed by that debt at a favourable rate.

This technique has sparked the creation of all kinds of exotic debt markets in the US, notably for bonds backed by pooled mortgage payments.

In Europe, where tax laws on this sort of investment have been less favourable, such deals have been slow to take off.