By Tom Sims and John O'Donnell
FRANKFURT (Reuters) - Deutsche Bank (DE:DBKGn) is in danger of failing U.S. stress tests, a European bank supervisor told Reuters, adding to pressure on Germany's biggest lender to make changes to its investment bank after failed merger talks with Commerzbank (DE:CBKG).
European Central Bank regulators are concerned that Deutsche Bank's standing has weakened since it flunked U.S. stress tests in 2015, 2016 and 2018 and a repeat would cause a bigger dent in confidence among customers and business partners.
The Federal Reserve, which will complete its examination of Deutsche Bank's U.S. operations in the coming weeks, could also impose conditions curbing its Wall Street investment bank, further undermining its earning power, the official said.
A spokesman said Deutsche Bank had "invested heavily to ensure that the bank meets regulators' demands and has made significant progress". The Federal Reserve, which is expected to announce the results by July, and the ECB declined to comment.
While Deutsche Bank had made significant improvements in recent years and eased relations with the Federal Reserve, systems it uses to monitor its business and risks, which determine how much capital it needs, remained weak.
Deutsche Bank's future in the United States, where it opened 40 years ago with just 76 employees before expanding rapidly in 1999 by buying Bankers Trust, is already in doubt.
Investors and credit rating agencies have expressed worries about Deutsche Bank's investment bank, which accounts for most of the 9,000 people it now employs in the United States, after last week's collapse of merger talks with Commerzbank.
"The key challenge for Deutsche Bank remains to demonstrate that the investment bank can effectively compete ... and earn acceptable and stable returns," ratings agency Moody's said.
Rating agency Fitch said Deutsche Bank's investment bank "has yet to show that it can recover lost market share and navigate an uncertain market environment."
Both agencies have the group tagged for a possible credit-rating downgrade.
In the first quarter revenue at Deutsche Bank's investment bank, which accounts for more than half its overall revenue, slid 13 percent from a year ago. Costs were higher than its income.
Nonetheless, Deutsche Bank's management is signaling no major changes as it aims to be a credible competitor to U.S. powerhouses JP Morgan and Goldman Sachs (NYSE:GS).
Deutsche Bank Chief Executive Christian Sewing told analysts last week that he would continue to review strategic alternatives but that it was "non-negotiable" that the bank remains "globally relevant", including in the U.S. and Asia.
Soon after assuming office in a sudden management reshuffle last year, Sewing made cuts at the investment bank, mainly affecting the loss-making equities division and the business that serves hedge funds in New York and London.
But some investors have been calling for more drastic measures, with concerns heightened after six weeks of frantic yet fruitless merger talks.
Berlin had pushed to create a national champion and end questions over the future of the banks.
But management on both sides called off talks, blaming a need for capital, restructuring costs and difficulties implementing a deal.