Germany’s Finance Sector Plagued by Fraudulent Schemes: A Study of BaFin’s Inadequacies
The recent Wirecard scandal has exposed the largest case of accounting fraud in German post-war history, leaving many to question the effectiveness of Germany’s financial regulatory body, BaFin. This is not an isolated incident, but rather one example of a long string of high-profile corporate financial scandals in recent German history.
A History of Financial Scandals
- Wirecard scandal
- “Cum-Ex” tax fraud scheme
- Volkswagen’s “Dieselgate”
- HSH Nordbank
- Various misconduct scandals at other German banks
These scandals can be traced back to the dissolution of the Deutschland AG cartel-like network of close interfirm relationships between large banks, insurance companies, and industrial heavyweights. The move away from this model created a power vacuum that has yet to be filled by BaFin.
Inadequacies in Regulation
BaFin’s inability to effectively supervise financial institutions is evident in its failure to detect Wirecard’s multi-billion euro fraud. A recent report by the Börsen-Zeitung highlighted the lack of oversight by corporate creditors, who failed to access non-public audit reports despite having the right to do so.
- Lack of transparency has allowed fraud to go undetected for years
- BaFin terminated a regulation in 2005 that required creditors to consult a company’s audit report if its annual report did not provide a conclusive picture
Effective Regulation: A Two-Pronged Approach
The German experience demonstrates that there are essentially two optimal ways to prevent financial fraud:
Bottom-Up Informal System
- Relying on firm interlinkages, reputational costs, and rents
- Checks and balances based on informal networks
Top-Down Watchdog Agency
- Relentless and powerful supervision by regulatory bodies
Germany’s reliance on neither has led to a lack of effective supervision.
Addressing the Issues
In an effort to address these issues, regulators are planning to give BaFin a broader mandate, allowing it to launch its own forensic audits without needing confirmation from the Financial Reporting Enforcement Panel (FREP). However, this move alone may not be enough to restore public trust in Germany’s financial sector. BaFin’s internal structures need to be reformed, and the authority needs to be armed with more powers to effectively regulate the financial industry.
Conclusion
The Wirecard scandal serves as a wake-up call for Germany to rethink its approach to financial regulation. The country must invest in strengthening its regulatory body and ensuring that it has the necessary tools to prevent and detect fraudulent activities. Only then can Germany’s finance sector regain public trust and confidence.