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Cover Me: The Economy Is on Fire (The German Pfandbrief)

Published online by Cambridge University Press:  06 March 2019

Patrick Quirk

Extract

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This article examines the German Pfandbrief (“covered bond”) as an example of the banking practice of “originate to hold” by which mortgage debts are retained on the balance sheet of the originator and not sold on to a third party such as an investor or hedge fund. The global financial crisis (GFC) of 2008-2009 will be forever linked to the process known as “securitization” and the distribution of mortgage-backed securities throughout willing and later remorseful financial markets. But this is not the only model. As a member of the Executive Board of the European Central Bank (ECB) noted in June of 2008, “it may be worth recalling that this [originate to distribute model] is not the way banks have historically done business. Under the traditional—perhaps, I should say secular—‘originate to hold’ business model, banks extend loans to firms and households and hold them in their balance sheets until they mature or are paid off.”

Type
Articles
Information
German Law Journal , Volume 11 , Issue 12 , December 2010 , pp. 1323 - 1346
Copyright
Copyright © 2010 by German Law Journal GbR 

References

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23 Most notably the ability to render a “true sale” of debts that have been securitized under Article 9 of the Uniform Commercial Code.Google Scholar

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26 See Merriman, John, A History of Modern Europe from the Rennaisance to the Present, 432–434 (WW Norton & Co. 1996). Frederick II of Prussia, also known as “Frederick the Great”, his rule was known for its “enlightened absolutism,” judicial reforms, an examination system for entry into the state bureaucracy, bolstering the position of Prussian nobles (e.g. he maintained serfdom in the private estates while others were working for its abolition), prohibiting marriage between nobles and commoners, and preventing the sale of noble lands to commoners‥Google Scholar

27 Frederiksen, D. M., Mortgage Banking in Germany, 9 Q. J. of Econ. 47, (1894) [hereafter Frederiksen].Google Scholar

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29 Id. at 47 (translation as published in Der Deutsche Oekonomist, 3 June 1894).Google Scholar

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31 Kur and Neumark, 1777; Pommern, 1780; Hamburg, 1782; Westpreussen, 1787; Ostpreussen, 1788; Lüneburg, 1791; Schleswig-Holstein, 1811; Mecklenburg, 1818 and 1840; Posen, 1822; Würtemberg, 1825; Calenberg, Grubhagen, and Hildesheim, 1825; Bremen an Verden, 1826. Frederiksen, p. 52.Google Scholar

32 Frederiksen, supra note 27, at 48.Google Scholar

33 Also called a Hypothekencasse.Google Scholar

** 34 Which might also be named “provincial mortgage coupons” or in more modern parlance, debentures.Google Scholar

35 Frederiksen, supra note 27, at 48.Google Scholar

36 Id. at 48.Google Scholar

37 As opposed to any form of receivership “for on that rests an eternal curse.” Frederiksen, supra note 27, at 48.Google Scholar

38 See id. at 49.Google Scholar

39 Land owners would apparently “borrow” cattle from neighbors of the purposes of valuation. See id. at 48.Google Scholar

40 See id. at 48.Google Scholar

41 Id. at 60.Google Scholar

42 Id. at 55.Google Scholar

43 See id. at 55.Google Scholar

44 See id. at 56. The amount of the loan was not to exceed the actual cost of the building.Google Scholar

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46 Id. “Usually, the amount that may be loaned by the credit associations is limited, so as to be within a certain proportion of the assessed valuation of the property.” Id.Google Scholar

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48 In Anglo-American systems a pledge is a very old form of security. As far back as 1703, Chief Justice Holt noted that the “fourth sort [of bailment] is, when goods or chattels are delivered to another as a pawn to be a security to him for money borrowed of him by the bailer; and this is call in Latin vadium, and in English a pawn or a pledge.” Coggs v. Barnard, 92 Eng. Rep. 999 (2 Ld. Raym, 909) (1703).Google Scholar

49 They are also sometimes translated as “bank debentures”. The distinction between “bond” and “debenture” is not strictly upheld in modern finance.Google Scholar

50 Cross, supra note 47, at 201–202.Google Scholar

51 See id. at 202.Google Scholar

52 Questions on German Covered Bond Legislation, Dr Otmar Stöcker, Managing Director, Association of German Pfandbrief Banks, 13.9.06 on file with author; See also §2(1) of Pfandbrief Act.Google Scholar

53 See Act, Pfandbrief, §2(2).Google Scholar

54 See id. §2(3).Google Scholar

55 See id. §3.Google Scholar

56 Id. §3Google Scholar

57 Id. §4(1).Google Scholar

58 Net Present Value is the “discounted value of an investment's cash inflows minus the discounted value of its cash outflows. To be adequately profitable, an investment should have a net present value greater than zero. Net present value is a tool for evaluating an investment proposal.” The American Heritage Dictionary of Business Terms, Houghton Mifflin Harcourt (2009). According to §4(6) of the Covered Bond legislation, the Federal Ministry of Finance (Bundesministerium der Finanzen) together with the Federal Ministry of Justice (Bundesministerium der Justiz) may promulgate rules for calculating the net present value.Google Scholar

59 See Act, Pfandbrief, §4 (2) 1, 2, & 3 (providing a full list).Google Scholar

60 See id. §4(4).Google Scholar

61 Id. §4(5).Google Scholar

62 Id. §4(7). This provision goes on to prohibit sale to the detriment of “the creditors of claims under derivatives pursuant to para. 3 despite the remaining assets recorded in the respective register not being sufficient to cover as prescribed the respective Pfandbriefe and the claims under derivatives pursuant to para. 3.”Google Scholar

63 See id., §4(7).Google Scholar

64 See id. §1(1) sentence 2, numbers 1–3.Google Scholar

65 European Economic Area. Members are signatories of the Agreement on the European Economic Area (EEA) (1991) also knows as the “Porto Treaty”. The Treaty permits countries to be part of certain economic aspects of the EU (the “four freedoms”) without being obliged under political aspects.Google Scholar

66 See Act, Pfandbrief, §41(2).Google Scholar

67 Id. §5(1).Google Scholar

68 See id. §6(1).Google Scholar

69 Id. §6(2) and §6(3).Google Scholar

70 Id. §7(1).Google Scholar

71 Id. §7(2) (prohibiting partiality). Those with employment or client relationships with the bank during the previous three years are excluded on this ground.Google Scholar

72 See id. §7(2).Google Scholar

73 See id. §7(3).Google Scholar

74 See id. §7(4).Google Scholar

75 See id. §8(1), last sentence.Google Scholar

76 See id. §8(3).Google Scholar

77 See id. §8(4).Google Scholar

78 See id.Google Scholar

79 See id. §9(1) and (2).Google Scholar

80 See id. §9(3).Google Scholar

81 See id. §10(1).Google Scholar

82 See id. §10(2).Google Scholar

83 See id. §11(1).Google Scholar

84 See id. §11(2).Google Scholar

85 See id. §27(1).Google Scholar

86 Id. §27(1) (Allen and Overy translation, 60).Google Scholar

87 See Pfandbrief Act §27(2).Google Scholar

88 Compared to those required for certain products in other countries, especially the USA. See generally Bobby R. Bean, Enhancing Transparency in the Structured Finance Market, 5 Supervisory Insights 4 (2008).Google Scholar

89 See Pfandbrief Act §27(1)(2).Google Scholar

90 See id. §28(3) & §28(4).Google Scholar

91 See id. §28(5).Google Scholar

92 Chapter 6, Pfandbrief Act, Legal Remedies and Offences.Google Scholar

93 See id. §38(1). The central cover provision is §4(7) sentence 1.Google Scholar

94 See id. §39 (1) & §39(2).Google Scholar

95 Hypothekenpfandbriefe.Google Scholar

96 See Annex A1 to Boos, Görke, & Hoegen, infra note, at 120 (Defining the Public Pfandbrief to include “the issue of covered bonds on the basis of acquired claims against public sector bodies designated as public sector bonds (Kommunalschuldverschreibungen), public sector debentures (Kommunalobligationen) or public Pfandbriefe (Öffentiche Pfandbriefe)).Google Scholar

97 The Act does not cover Aircraft Pfandbriefe.Google Scholar

98 Annex A1 to Boos, Görke, & Hoegen, infra note 120, at 48.Google Scholar

99 Gesetz zur Neuordnung des Pfandbriefrechts Vom 22 Mai 2005, Bundesgesetzblatt Jarhgang 2005 Teil I, Nr. 29 (promulgated at Bonn on 27 May 2005).Google Scholar

100 The right must also not exceed “the time period required for the book depreciation of the building in line with economic principles” (Bundesverband Öffentlicher Banken Deutschlands translation. P. 54.)Google Scholar

101 Pfandbrief Act 16(2).Google Scholar

102 Id.Google Scholar

103 Id.Google Scholar

104 Id.(Bundesverband Öffentlicher Banken Deutschlands translation, 54).Google Scholar

105 See BFP v. Resolution Trust Corp., 511 U.S. 531 (1994) (providing the issues inherent in calculating the market value based on the price at a forced sale). According to the US Supreme Court “The market value of a piece of property is the price which it might be expected to bring if offered for sale in a fair market; not the price which might be obtained on a sale at public auction or a sale forced by the necessities of the owner, but such a price as would be fixed by negotiation and mutual agreement, after ample time to find a purchaser, as between a vendor who is willing, but not compelled, to sell and a purchaser who desires to buy but is not compelled to take the particular piece of property. In short, “fair market value” presumes market conditions that, by definition, simply do not obtain in the context of a forced sale.” Id.Google Scholar

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109 Again, with compliance with certain EU Directives.Google Scholar

110 These conditions are: “1. a right in rem (dingliches Recht) can be created in respect of ships and ships under construction, which is recorded in a public register; 2. the right in rem grants the creditor security which is similar to a ship mortgage under German law and, in particular, the right to seek satisfaction under the secured loan claim from the ship or the ship under construction; 3. it is not significantly more difficult to bring an action for creditors of other nationalities as compared to their fellow nationals.” Boos, Görke, Hoegen, infra note 120, at 58.Google Scholar

111 See Pfandbrief Act §22(2).Google Scholar

112 See id. §22(4).Google Scholar

113 See id. §24(1).Google Scholar

114 Id. §24(2).Google Scholar

115 See id. §24(2).Google Scholar

116 Id. §24(2).Google Scholar

117 Annex A1 to Boos, Görke & Hoegen, infra note 120, at 53.Google Scholar

118 Pfandbrief Act§20; see Annex A1 to Boos, Görke & Hoegen, infra note 120, at 56. Other entities also capable of supporting Public Pfandbriefe include full members of the OECD, certain banks.Google Scholar

119 Annex A1 to Boos, Görke & Hoegen, infra note 120, at 56Google Scholar

120 Karl-Heinz Boos, Oliver Görke & Peter Hoegen, Das neue Pfandbriefgesetz-Starkung des Finanzplatzes Deutchland [The New German Pfandbrief Act: Strengthening Germany as a Financial Centre], Allen & Overy, at 62 (May 2005).Google Scholar

121 See Questions on German Covered Bond Legislation Dr Otmar Stöcker, Managing Director, Association of German Pfandbrief Banks, 13 Sept. 2006.Google Scholar

122 Id.Google Scholar

123 Pfandbrief Act §30 (2), sentence 2. If the Pfandbrief bank has disposed of an asset recorded in the cover register after the appointment of the cover pool administrator, such disposal shall be invalid (sentence 3).Google Scholar

124 See id. §32 (I).Google Scholar

125 See id. §30(2).Google Scholar

126 Id. §30(3).Google Scholar

127 Id. §30(3).Google Scholar

128 Id. §30(4).Google Scholar

129 See id. §30(4), sentence 2.Google Scholar

130 See Principally §46a of the Banking Act (Kreditwesengesetzes); Pfandbrief Act §30(5), sentence 1.Google Scholar

131 See Pfandbrief Act §30(8).Google Scholar

132 See id. §31(1), sentence 4.Google Scholar

133 See id. §31(1), sentence 1 (giving authority to the court “having jurisdiction at the seat of the Pfandbrief bank.”). The “seat” refers to the place of management under German Sitztheorie (“seat theory”). This may be compared to the place of incorporation theory (Gründungstheorie) more commonly found in common law systems.Google Scholar

134 See id. §31(1) sentence 3This must occur at the request of the Federal Authority;.Google Scholar

135 See id. §31(2), sentence 3. In cases under §33(5) the Genossenregister (register of co-operatives) is appropriate.Google Scholar

136 See Pfandbrief Act §31(3) sentence 1. This will depend on the circumstances the nature of the right.Google Scholar

137 See id. §31(3) sentence 4.Google Scholar

138 See id. §31(4).Google Scholar

139 See id. §31(5). Annual financial statements and an annual administration report are also required. The financial statement must be audited (§31(5) sentence 2.Google Scholar

140 See id. §31(6) sentence 1.Google Scholar

141 See id. §31(6).Google Scholar

142 See id. §31(1).Google Scholar

143 Id. §31(4).Google Scholar

144 Pfandbrief Act §35(1) sentence 1 (Allen & Overy translation, 66).Google Scholar

145 See Pfandbrief Act §35(2).Google Scholar

146 See id. §35(3).Google Scholar

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152 See Renzo G. Avesani, Antonio García Pascual & Elina Ribakova, Appendix II: Regulatory Framework for Pfandbriefe and Cédulas Hipotecarias Mortgage Pfandbriefe: A New Regulatory Framework in The Use of Mortgage Covered Bonds, 20, IMF Working Paper, WP/07/20, (2007). This Working Paper does not represent the views of the IMF.Google Scholar

153 See Kettering, Kenneth C., Securitization and Its Discontents: The Dynamics of Financial Product Development, 29 Cardozo L. Rev. 1553; NYLS Legal Studies Research Paper No. 07/08-7 (2008) (explaining the criticism by leading authors criticizing of this magic), available at SSRN: http://ssrn.com/abstract=1012937 Google Scholar

154 Greg Ip, FDIC Might Set a Policy View on New Mortgage Funding, The Wall Street Journal, A12, 7 March 2008.Google Scholar

155 Bert Ely, Let's Try Market-Oriented Reform, The Wall Street Journal, A11, 31 May 2008.Google Scholar

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157 Id.Google Scholar

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159 See id.Google Scholar

160 See id.Google Scholar

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162 Heidi N. Moore, Deal Journal – Path to Cash: Covered Bonds - FDIC Urges Banks to Issue Securities; Huge Market in Europe, The Wall Street Journal, 17 July 2008, C3.Google Scholar

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165 Renzo G. Avesani, Antonio García Pascual & Elina Ribakova, Appendix II: Regulatory Framework for Pfandbriefe and Cédulas Hipotecarias Mortgage Pfandbriefe: A New Regulatory Framework in The Use of Mortgage Covered Bonds, 20, IMF Working Paper, WP/07/20 (2007). This Working Paper does not represent the views of the IMF.Google Scholar