For all the chatter about a tie-up between Deutsche Bank AG and its ailing rival Commerzbank AG, there’s another banking merger Germany needs just as much. Trouble is, it isn’t happening either.

Talks that could have led to the creation of the country’s second-largest lender after Deutsche Bank have ended without agreement, Boersen-Zeitung reported on Thursday. Under the plans, two state-owned regional lenders, Helaba and NordLB, would have combined before they assimilated two more, DekaBank and LBBW, Bloomberg News reported in October.

It’s not clear what got in the way of a deal. The state of Lower Saxony, NordLB’s biggest shareholder, had signaled it was open to giving up its majority holding. If the deal is indeed dead, it would be a missed opportunity. Germany’s smaller state-owned banks need to be consolidated and prised out of the grip of the politicians who have overseen them. A tie-up between Helaba and NordLB might have kick-started that process.

For one thing, time isn’t on NordLB’s side. The lender urgently needs 3 billion euros ($3.4 billion) to replenish capital buffers that have been eroded by souring shipping loans. A sale would help to plug the gap.

Private equity funds had, separately, shown an interest in buying a stake in NordLB. But, in a sign that discussions with all suitors were struggling, the finance minister of Lower Saxony has said he may end up doing a deal with a company that isn’t on the short list of bidders.

What’s more, while a tested system of mutual guarantees among public-sector banks may yet provide the money NordLB needs, the local savings banks that own a minority holding have so far indicated they don’t want to cough up.

Lawmaker and regulators have sounded the alarm, urging NordLB’s peers to set aside funds to rescue the bank should talks with private investors fail, according to Bloomberg News.

As a group, Landesbanken invest money for public-sector savings banks. Winding down NorldLB would cost billions of euros and reverberate through the rest of Germany’s financial sector. With investor confidence in both Commerzbank and Deutsche Bank at rock bottom, a large resolution is probably best avoided.

Conversely, a NordLB merger could be just the filip the sector needs. Not only would it allay worries about a big lender failing, it could also lead to more mergers in a complex, overbanked and fragmented industry that’s been weakened by record-low interest rates.

Germany’s 385 public-sector savings banks, known as Sparkassen, and their associated Landesbanken, are controlled by local governments. By default, mergers would require a loss of some political authority. But that would be no bad thing given that most of Germany’s lenders are too small to be overseen by the European Central Bank, remaining subject to local controls and management. Fewer state-backed lenders would also help to revive profitability across the country’s whole consumer banking industry.

In declaring the era of the traditional Landesbank over, the force behind the Helaba and NordLB talks, German Savings Bank Association Chief Helmut Schleweis has said a single stronger company is needed. He’s right; the problem for investors is they are no closer to that end.

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Elisa Martinuzzi is a Bloomberg Opinion columnist covering finance. She is a former managing editor for European finance at Bloomberg News.

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