EBA Announces EU Bank Stress Test Results
Tuesday, July 19, 2011

The European Banking Authority (EBA) has published the results of its 2011 European Union-wide stress test of 90 banks in 21 countries, which show that eight banks fall below its capital threshold of 5%.

The aim of the 2011 stress test is to assess the resilience of the banks involved in the exercise against an “adverse scenario”. However, while the benchmarking of the banks’ resilience against capital of the highest quality - Core Tier 1 - has been praised, the extent of the stresses assumed in the scenario has come under some criticism.

The scenario assesses banks against a deterioration from the baseline forecast in the main macroeconomic variables, including house prices, changes in interest rates and sovereign spreads affecting the banks’ cost of funding, and haircuts applied to sovereign and bank exposures. But it does not, crucially, directly capture all possible outcomes of the current sovereign crisis, particularly the fallout from a Greek debt default.

Nevertheless, the transparency of the exercise is designed to provide investors, analysts and other market participants with an informed view on the resilience of the EU banking sector. The EBA therefore allows specific bank capital increases in the first four months of 2011 to be considered in the results. Banks have been incentivized to strengthen their capital positions ahead of the stress test.

Covering the years from 2010 to 2012, the stress test results show that, at the end of 2010, 20 banks would have fallen below the benchmark 5% Core Tier 1 Ratio (CT1R) threshold over the two-year horizon. However, between January and April 2011, a further net amount of some EUR50bn (USD70.7bn) of capital was raised, and, taking that into account, only eight banks now fall below the 5% capital threshold, with an overall shortfall of EUR2.5bn.

On the basis of these results, the EBA has issued its first formal recommendation stating that national supervisory authorities should require banks whose CT1R falls below the 5% threshold to promptly remedy their capital shortfall. That would involve five banks from Spain (Banco Pastor, UNNIM, Caja3, Catalunya Caixa and CAM), two banks from Greece (EFG Eurobank and ATEbank) and one from Austria (Oesterreichische Volksbanken).

However, 16 banks also display a CT1R of between 5% and 6%, and the EBA notes that this might not be sufficient to address all potential vulnerabilities. Therefore, the EBA has also recommended that national supervisory authorities request all banks whose CT1R is above but close to 5%, and which have sizeable exposures to sovereigns under stress, to take specific steps to strengthen their capital position. These would include, where necessary, restrictions on dividends, deleveraging, the issuance of fresh capital or the conversion of lower-quality instruments into Core Tier 1 capital.

The EBA will monitor the implementation of these recommendations and produce progress reports in February and July 2012.