VZCZCXRO4296
PP RUEHAG RUEHDF RUEHIK RUEHLZ RUEHROV
DE RUEHRL #1574/01 2320541
ZNR UUUUU ZZH
P 200541Z AUG 07
FM AMEMBASSY BERLIN
TO RUEHC/SECSTATE WASHDC PRIORITY 9048
INFO RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCNMEM/EU MEMBER STATES
RUCNFRG/FRG COLLECTIVE

UNCLAS SECTION 01 OF 02 BERLIN 001574 
 
SIPDIS 
 
SENSITIVE 
SIPDIS 
 
TREASURY PASS TO FEDERAL RESERVE 
 
E.O. 12356:  N/A 
TAGS: EFIN PREL PGOV GM
SUBJECT:  U.S. SUBPRIME MARKET FALLOUT REVERBERATES IN 
GERMANY 
 
 
ENTIRE TEXT IS SENSITIVE BUT UNCLASSIFIED. NOT FOR INTERNET 
DISTRIBUTION 
 
¶1. (SBU) SUMMARY.  Fall out from the U.S. subprime mortgage 
market continues to reverberate in Germany.  IKB, a 
Dusseldorf based bank, has chalked up losses of 
approximately 3 billion euros ($4.1 billion), staving off 
insolvency due to a bailout of 3.5 billion euros ($4.79 
billion) led by state-owned KFW.  Contacts at IKB believe 
that banking losses will lead to more regulation by the 
German government.  The ECB responded to the crisis by 
pumping more than two hundred billion euros into European 
financial markets, but remains sanguine that market 
disruptions are temporary.  Contacts within the German 
government agree the fundamentals of the U.S. and global 
financial system remain strong.  They support the USG's 
call for calm and the need to ensure liquidity in global 
markets.  Contacts at the Chancellery, while supportive of 
U.S. policy in general, question whether such crises could 
be avoided in the future with stronger regulation of hedge 
funds.  The Finance Ministry believes policymakers should 
work to stabilize markets and determine the root causes 
only after the crisis has passed.  In contrast, Economic 
Ministry officials are concerned about the impact of a 
major market downturn on the German economy as a whole. 
END SUMMARY 
 
IKB 
- - 
¶2.  (SBU) The German bank most affected by the fallout of 
the U.S. subprime market is Duesseldorf-based IKB Deutsche 
Industriebank AG.  The bank invested a total of 7.8 billion 
euros ($10.68 billion) in risky subprime mortgages.  Its 
estimated total losses are approximately 3 billion euros 
($4.1 billion).  Traditionally, a steep loss like this 
would have meant bankruptcy for the bank, and might have 
sparked a deeper financial crisis.  To avoid this, KFW, a 
state-owned lender, and other German banks offered a 3.5 
billion euro ($4.79 billion) bail out, with guarantees 
totalling 8.3 billion euros ($11.37 billion). 
 
¶3.  (SBU) German Federal Financial Supervisory Authority 
(BaFin) auditors are reviewing IKB books and are expected 
to issue a detailed report on the extent of losses by the 
end of August.  IKB expects a broad political debate in the 
Bundestag and at the state level about KFW's intervention 
and whether new regulations are necessary to avoid future 
crises. 
 
¶4. (SBU) On August 15, CG Dusseldorf spoke with Clemens 
Jahn, the head of IKB Private Equity, a subsidiary of IKB. 
According to Jahn, other affected banks in North-Rhine 
Westphalia are WestLB, Postbank, and Sal Oppenheim.   All 
banks in Germany are being hit in one way or another, at 
least in terms of the general level of trust in the 
financial system - and thus their willingness to lend to 
each other.  It is too early to tell if there are more 
serious problems waiting to be discovered.  Jahn believes 
the bank will survive the crisis.  However, if loses at 
IKB are higher than 3 billion euros, pressue will build 
for a political debate over the appopriateness of spending 
more KFW money to cover urther losses. 
 
¶5. (SBU) IKB expects the crisis ill result in more 
regulation for the German finncial industry.  The bank 
believes BaFin will tak measures to enhance transparency, 
such as requiing off-balance-sheet activities to be listed 
onfinancial institutions' balance sheets.  These 
regulations will be on top of those already in place and, 
IKB argues, will impose a further burden on smaller banks 
such as itself.  IKB does not believe more regulation is 
the answer, however, as regulators usually respond to the 
last crisis and are notoriously bad at anticipating new 
movements in the financial sector. 
 
THE ECB STEPS IN 
- - - - - - - - - 
¶6.  (SBU) The Frankfurt-based European Central Bank (ECB) 
has taken strong action to limit the extent of the fallout 
on European markets by injecting over two hundred billion 
euros into financial markets to ensure liquidity.  On 
August 15, CG Frankfurt met with Francesco Papadia, 
Director General for Market Operations at the European 
Central Bank, to discuss the subprime crisis.  Papadia 
described the current situation as "close to normal," and 
said that the situation was probably a needed correction to 
the recent "Panglossian days."  The ECB would prefer not to 
 
BERLIN 00001574  002 OF 002 
 
 
keep injecting liquidity in the market, but would do 
whatever is necessary to stabilize the market.  He added 
that technically there is no limit to ECB infusions. 
 
¶7.  (SBU) Papadia said that banks probably overreacted to 
the liquidity crisis.  He felt a certain amount of the 
demand was based on panic, as evinced by the precipitous 
decline in liquidity at the beginning of the crisis.  He 
described this situation as a market inefficiency that the 
ECB had to help alleviate.  Papadia believes that any 
structural problems that contributed to the crisis were in 
the U.S. fund rating system and mortgage market and 
therefore not European in origin. 
 
THE VIEW FROM THE CHANCELLERY 
- - - - - - - - - - - - - - - 
¶8.  (SBU) On August 17, EconOff met with Ludger Schlief, 
Head of the Chancellery's Finance Policy Division, to 
discuss the crisis.  The Chancellery believes that global 
actions taken to stabilize markets and reassure investors 
of the overall soundness of the U.S. economy are working. 
They support the ECB's move to inject much needed liquidity 
into financial markets.  The German government however, is 
concerned that problems in the subprime market could lead 
to a crisis in confidence in the U.S. economy that could 
spread to Europe.  For that reason, Schlief said that it is 
important for major economies to work together to 
coordinate responses to send a clear message to the 
markets. 
 
¶9. (SBU) The Chancellery also raised the issue of the 
underlying causes of the crisis.  Returning to a theme 
often raised by the Chancellor during Germany's G-8 
presidency, Schlief speculated that requiring more 
regulation of hedge funds could be one way to ensure 
transparency and avoid further such crises. 
 
THE FINANCE MINISTRY 
- - - - - - - - - - - 
¶10.  (SBU) Dr. Thorsten Poetzsch, Deputy Director General 
for Banking and Finance Issues at the Ministry of Finance, 
expressed confidence that international markets will 
survive the current volatility with no long term impact. 
Poetzsch said it is important to ensure the problems in the 
subprime market do not spread to other sectors.  He added, 
however, that it is too early to speculate on the impact of 
the crisis on German policy and financial regulations.  At 
this stage the most important task for governments is to 
contain the crisis and restore confidence in global 
financial markets. 
 
THE ECONOMIC MINISTRY 
- - - - - - - - - - - 
¶11.  (SBU) Dr. Albert Caspers, Head of the Macroeconomic 
Division of the Ministry of Economics, echoed the opinion 
of the Chancellery and Finance Ministry.  He is satisfied 
that everything is being done to stabilize markets and 
ensure confidence.  The Economic Ministry believes the U.S. 
and German economies are fundamentally strong and can 
weather this crisis.  Caspers noted that the German economy 
is in the midst of a robust upswing and believes the crisis 
should have no immediate impact.  However, he did express 
concern over the danger to the German economy of a global 
slowdown. 
 
¶11.  This cable was coordinated with consul generals 
Dusseldorf and Frankfurt. 
 
KOENIG