As the world's top leaders gather in London to confront the worst post-war recession, Josef Ackermann, Chief Executive of Deutsche Bank, urges those attending the G20 summit to avoid a lurch into financial protectionism and to give strong support to a globalised banking system to promote world growth.

Dr. Josef Ackermann, Chairman of the Management Board and the Group Executive Committee of Deutsche Bank AG

Financial Times: Mr Ackermann, this week there is an important meeting of the G20. Can you tell us about your views of the efforts being made by politicians to solve the financial crisis?

Josef Ackermann: What is really important is that this is not just another meeting. It is the heads of state, meeting after lots of preparation, working groups and papers from the likes of the Financial Stability Forum, the Turner Report, and of course also the private sector. It is good to see that private and public sectors are very much in sync, in terms of analysis and also in terms of recommendations, which is very much a step in the right direction. There are not substantial differences.

What are the remaining differences?

Josef Ackermann: The focus is a little bit different. The private sector has focused more on risk and liquidity management, things that we can control and improve, including compensation issues. In the public sector papers, the focus has been more on the systemic and regulatory side, co-ordination on a European or global scale.

What we have not yet really tackled is more the infrastructure side: what could we do better to reduce the interconnectivity in the banking system - ways that banks can exit the market. We are so interconnected right now. Banks should be allowed to fail. The moral hazard issue is a very challenging issue. No one should feel safe that they will always be bailed out. We have seen in the crisis that this has been very challenging. Even relatively small banks have been too interconnected to be allowed to exit the market and have had to be bailed out and rescued. That is something we have to work on, in terms of having central counterparties for credit default swap settlements and things like that. So we - private and public sector - have to work on the infrastructure side of the banking system.

Talking about efforts to reduce interconnectedness in banking seems to go against a lot of what we have seen in financial intermediation in the last 20 years.

Josef Ackermann: This is a very important issue. I think we should do everything to avoid a disintegration of the global financial system, by making banks less vulnerable from a systemic point of view in order to maintain the benefits of a global system.

Western civilisation is undergoing a once in a century shock, not only in the economy but in society at large, with three or four main elements in it.

First, the role of the state is changing: it is much more perceived as a far more active player in the market. Second, clearly we have a new balance of power - it is symptomatic that we have a G20 and not G7.

Third and probably most critical, there is a certain tendency to refocus on national interests, and I think we have to fight that. It is understandable that taxpayers and governments want to have more control over what is happening domestically, but I think it would be very negative if we gave up the advantages of a global financial system. But we have to make it safer and more stable.

Are there dangers of the "deglobalisation" of finance because of the role states are playing and the expectation that they will look first to the interests of national banks?

Josef Ackermann: To national banks, yes, and also to national regulations - for example in liquidity management, where they say "we want to be certain that liquidity is available in our own country". For big global banks, organised along divisional lines on a global scale, it is more relevant to have liquidity on a global scale, not whether we have liquidity in the UK, Germany or Brazil. So in that sense there is a risk. It could ultimately lead to some sort of protectionism which would be extremely counter-productive for the global economy.

Have you seen examples of this, or hints that this is starting to take place?

Josef Ackermann: There is speculation that certain banks are being asked to pull out of international activities and focus more on national interests in terms of supplying credit and so on. Whether this is yet statistically important remains to be seen, but the perception is that people are more focusing on national banks and interests. And you have some ideas for "narrower" banks or some kind of "Glass-Steagall lite", where banks would not be allowed to use stable deposits to build up proprietary trading positions, private equity or hedge funds. It shows that there is a tendency to make banks smaller and simpler.

For the bank you represent, that could be a big problem - it seems to go against what Deutsche has tried to be.

Josef Ackermann: We operate in 75 countries and accompany international companies in different markets. Globalisation has helped many emerging economies to fight poverty. To retreat from that global approach would in my view be a step in the wrong direction, even if understandable from the point of view of national governments and taxpayers.

The fourth point I wanted to mention is that we are confronted with something we underestimated: namely the shadow banking system and its importance. A good part of that will not come back for a long time, which means that demand for a number of our products will never achieve the levels we have seen in the past. This is to some extent down to a change in the regulatory framework but also the result of the deleveraging in the financial system.

That must be detrimental to the profits and prospects of the bank?

Josef Ackermann: At first glance that is certainly the case: you have had hedge funds, you had structured investment vehicles, you have regional banks which were heavy buyers of some products . . . but on the other hand the fact that we are focusing more on more liquid business, especially in sales and trading, and that we have seen some investment banks exiting the business, means that strong players are gaining market share and benefiting from being global. It is clear that demand for some products will fall. But what we see globally is that customer flow for less sophisticated products has developed pretty well.

Going back to the idea, or risk, of regulating for 'Glass-Steagall lite', do you see dangers that politicians are thinking in these ways. Is there pressure in that regard?

Josef Ackermann: First of all I would applaud that politicians have not jumped to premature conclusions. People are aware that the complexity is high and we need more analytical work before we know what we have to change. There is a clear understanding, which I would support, that we need better regulation, and that some areas that have not been regulated or supervised have been at the root of this financial crisis. I think the statement that each participant in the financial market should be part of comprehensive regulation is the right decision. I would strongly support that. It is the end of the shadow system. How far you want to go is a different question but to have a better feel for where the risks are is very important.

We also need better aggregate data for risk distribution. For many years the wrong assumption was that, yes, risks were spread globally, but that everyone was only assuming the risks they could digest. As a consequence we felt the system was very stable. That proved wrong. Some people have taken risks beyond their capital and strengths.

We also need better macro prudential supervision, or some kind of systemic risk supervisor. The old theory that it is too complicated to detect bubbles, and that instead you deal with the consequences when the bubble has burst - I think we have to make progress in that respect. In the last two to three years we have gone too far in the building up leverage and paid a high price. Central bankers will argue 'We always said it in our reports' but also you need people who can clearly have an impact on micro-prudential supervision so that people can challenge banks and their management.

I would even go so far as to say supervisors should be able to challenge business models. Banks operating only in a small home market, or with a business model that did not allow them to make sufficient profit, were more tempted to go beyond their limits in building up toxic assets or assuming risks that they could not afford, or to try to use liquidity mismatches to generate profits. Banks operating in more profitable home markets have been less affected.

In my view it has been less to do with compensation incentive schemes or whether or not you are an investment bank. It is more what kind of business model a bank had, and how much profit potential it had in a given home market, that was more indicative of a recipe for failure.

So is there a need for heavily regulated utility banking?

Josef Ackermann: How far authorities should go is a matter for debate but I think it is an important lesson from this crisis that they should at least be able to challenge these kinds of issues.

A much riskier aspect is acquisitions - should regulators and supervisors be allowed to challenge acquisitions and ask what would happen under a completely different scenario in terms of asset prices, share price or financing costs? People should be in a position to respond to these kinds of stress testing.

You also expect that, of course, from supervisory boards but obviously that has not worked in many cases. So I think to have some regulatory framework that challenges business models is appropriate.

You said such considerations have been more decisive than things such as banks' compensation models. Has the debate over bank pay gone too far?

Josef Ackermann: I don't want to say there is not room for improvement in compensation schemes. But this has not been the only evil in the system. Banks that had a lot of incentive schemes have so far done better than some others. Landesbanken did not have aggressive incentive schemes.

It is something where, yes, we need a longer term perspective and some kind of bonus/malus system. But pay is being used a bit as an emotional red herring and I am pretty sure that in five years from now some people will be saying we need more entrepreneurial spirit again. So we need to find the right balance - correcting the deficits of short-term incentive schemes but not giving up the idea that you pay for performance. Preventing people from making innovations and bringing new products to the market would be very detrimental for the well-being of countries and the global economy. We are running the risk of going a little too far in bashing these schemes.

I would never defend those who made major mistakes but 90-95 per cent of people who work in banks have nothing to do with the current crisis. The bashing has become a little too easy. We need the best talent to help us find solutions.

Is it going to be more difficult to be a cross-border bank in future?

Josef Ackermann: If you have governments as owners that could be one of the consequences. But we should phrase it differently and say: "What do we need so banks can operate successfully with the right supervision so they do not become a systemic risk?" I strongly support some kind of regulatory council so that you have the same standards everywhere. The differences in terms of accounting, banking standards and so on are just too big. It is in everyone's interests that we create a level playing field.

Secondly, we should have supervisors being much more co-ordinated on a European and global scale. For Deutsche Bank we have so-called "trilateral" meetings - with the Americans, the FSA in the UK and with the Germans - and I think that is a very good step in the right direction and helps everyone. National regulations, national standards would be very counter-productive - and very expensive and complicated.

So this should be on the agenda for the G20 this week?

Josef Ackermann: I think a clear statement to stress the benefits of a global financial system is absolutely key, yes. That would be a guiding principle for many discussions.

Are you confident you will get such a statement?

Josef Ackermann: I don't know.

Is there too much focus on issues - such as tax havens - that are secondary or are distractions from more fundamental issues?

Josef Ackermann: I think compensation and tax havens have become very emotional and easy-to-sell topics. I don't think they are the most urgent parts of reforms needed in the financial system. I understand that if you talk about more comprehensive regulation then tax havens have to be some part of that financial market architecture. For me that is not the most urgent thing to change or something with a big impact on the current crisis.

Turning to the world economy, and particularly Germany, growth forecasts seem to be getting much worse very quickly. How much of a problem is this going to be for the country's banks?

Josef Ackermann: Germany is extremely dependent on exports and in this kind of slowdown Germany will be heavily affected. But there are a few things that are important. Germany has not had a property bubble in the last 10 years, so we are beneficiaries of that. Second, companies have restructured a lot over the same period and have increased their capital and increased productivity. Most companies can resist a massive change in sales for quite some time and as a consequence we do not see a substantial change in the need for risk provisions, neither on the household side nor in the corporate sector. People went into this crisis stronger than they were five years ago.

But I will not say it will not be more challenging. If we do not see a recovery in 2010 it will get pretty difficult.

In Germany but also in other countries, banks have digested a lot of pain in their trading book in the last two years. Now there are toxic assets and higher risk provisions in the banking book. We do not see it yet in a dramatic way. But the trend is clearly upward. For Deutsche Bank, we had most of the toxic assets in the trading book and we think we have good asset quality in the banking book.

What is your view of the fiscal stimuli governments have used so far to try to overcome the crisis?

Josef Ackermann: A lot has been done. Whether it is enough or not is premature to say. But I think that, before we invent one new programme after another, we should really see what the impact is of the programmes under way. One day we will have tremendous deficits and that is really mortgaging the future. So I understand that European countries, especially, prefer a disciplined approach. But if things get worse, of course more could be needed.

Do you have any concern about whether Deutsche can still be successful in a new banking environment?

Josef Ackermann: I strongly believe that integrated and diversified banks will be the winners and will emerge stronger out of this crisis. That means focusing on three or four core activities - not trying to be all things to all people. The era of the big conglomerate, the financial supermarket or bancassurance, is behind us. But I think having an investment bank and a strong deposit base from private clients has been proven to be a very good business model. Even in the crisis we never had any funding issues and I think that proves the point.

I am a strong believer that the investment banking business as part of a focused universal bank is a very attractive business. You have fewer global investment banks competing now: it is becoming even more attractive. The basic products - advisory business, capital markets, sales and trading - will always have a good market. What we really had to adjust were the riskier elements in the business.

What is interesting is that the opportunity costs of reducing those risks are in no comparison to the risks that were taken in generating those revenues. If you say you had 10 per cent of revenues from proprietary trading, it is actually a relatively small number. But what you needed in risk equivalent to generate that 10 per cent, with markdowns of 50, 60, or 70 per cent - you are talking about much bigger numbers and the risk/reward of some of these businesses has just not been justified. That is why we and others have decided to exit those businesses.

Were you late to realise this, do you admit?

Josef Ackermann: No one had ever assumed or expected you could have relatively good quality products lose 40 or 50 per cent of their value over such a short period of time, or that there could be such a complete drying up of liquidity that you could not even sell products on the way down. The warehousing risk was clearly underestimated.

And do you have any fears over regulation coming along that will impede Deutsche's ability to do business?

Josef Ackermann: I expect four issues. After the crisis we will have more capital in the system and above all more capital allocated to the trading book, which I think is the right thing to do. The fact that you had to allocate little capital to trading produced a temptation to have more in the trading book than in the banking book. This is a somewhat artificial distinction and in hindsight something we should correct and regulators should have a look at.

Second, more importantly, is liquidity. We need for banks to have a liquidity cushion of probably two to three months so that if necessary they can survive and find other solutions without having to tap the capital markets or the money markets.

The third, I favour some kind of dynamic provisioning to build up cushions, but it has to be made transparent: it would be misleading to build up cushions in good times to release them in bad times and give the feeling to markets that you are making profits. I am not in favour of using this to smooth earnings.

And finally, in the securitisation process, we need the same due diligence for products we keep on our book as for products we distribute. In order to support that, it is probably a good thing to have some sort of 'skin in the game' - in the order of 5 per cent.

But we cannot go too far in this. In a system of disintermediation, banks use a market-based approach to finance emerging economies and industrial companies. If we go back to a bank-based approach - traditional, old-fashioned lending - that would require much more capital, which is clearly not available, and would have a very negative impact on global growth.

To advocate a move away from an "originate to distribute" model to a "buy and hold model" is easy to say. But many of those who say that are not thinking to the bitter end of what it would mean for balance sheets, capital and liquidity, and what it means as a consequence for the real economy and the funding of economies and companies. Without disintermediation, and reliance on money markets and capital markets, you would never have had the kind of capital flows needed to fund emerging economies or to build up companies.

Do we stop disintermediation and growth? Or do we correct some of the systemic failures? That is a very important question for the entire current discussion. Do we need a new system or are we talking about improving the current system? I would strongly argue in favour of correcting and improving the current system but not changing it completely, because we have benefited from it vastly for many, many decades. We have also seen a few things that need to be corrected - and that is what we are working on.

So can banking flourish with the regulatory changes you see coming?

Josef Ackermann: Banking has always been able to adapt to regulatory changes and I think that will happen in a positive way. The world will climb back to growth and if you look at the financial integration of emerging economies, and the wealth being generated in households, banking is still a very attractive business going forward. Many financial institutions will benefit from tighter risk and liquidity management and from improved business models. I have no doubt that banks will be very profitable again after the crisis - and we need that. Only a profitable bank can absorb the risks that the real economy expects us to take. If not, we would not have the same real economic growth anywhere. Banks are an important element in building up global wealth.

How has Deutsche Bank done so far this year?

Josef Ackermann: We said the first two months were good and March's operating revenues were solid.

How are changes to Deutsche's own bonus model progressing?

Josef Ackermann: In most cases we have a multi-year bonus model and we have always paid bonuses after costs including capital costs, which is important. The only missing element is a 'malus' system. It is a little bit more complicated than people think but that will be part of the compensation system this year.

Would you prefer to raise capital from the private sector rather than rely on the government?

Josef Ackermann: We do not need any capital but if we had to we would clearly prefer a private sector solution. We have no plans to.

You will retire next year from the bank. What do this month's changes to Deutsche's management board - promoting four extra people - mean with regard to picking your successor?

Josef Ackermann: Just that we have a lot of good talent in the bank and that we are very happy to be able to broaden the management structure in order to prepare the future with internal candidates.

So your successor will be from within the bank?

Josef Ackermann: I cannot comment.

Does the definition of the bank that you have set - that it is an investment bank with a strong private client franchise attached - guide who you want a successor to be, in that is established the priorities for the bank?

Josef Ackermann: At the end the management and skills, and personality, are more important than the business the next chief executive represents. I had to learn many things when I came into the role and anyone else will have to. It is always a more challenging job than running any division.


James Wilson, Frankfurt Correspondent, talked to Josef Ackermann in London. Source: FT.com/FT Interview: Josef Ackermann (transcript)