The European Union this week publishes results of stress tests on Europe’s embattled banking sector amid a dangerous phase in the eurozone debt crisis that threatens to engulf Italy and Spain.
The European Banking Authority, the EU’s London-based regulator for the financial sector, has carried out assessments on 91 banks representing 65 percent of the sector and will publish its findings at 1600 GMT on Friday.
The purpose is “to assess the resilience of European banks to severe shocks and establish a common, conservative stress testing benchmark,” the EBA said on Wednesday. However, no default is assumed in the tests.
The EBA’s tests come at a crucial time, after the long-term cost of borrowing for Italy and Spain reached record highs this week, amid intensifying concern over sky-high levels of public debt.
“The forthcoming European bank stress tests put in the spotlight a common channel of contagion: investors’ concerns about European banks? exposure to peripheral euro area debt markets, which could eventually constrain these banks? ability to lend, or worse still, lead to forced deleveraging,” Barclays Capital analysts said in a research note.
“A long lasting lending crunch is a likely conclusion if the results of Friday’s bank stress tests show that bank capital is scant.”
The stress tests will seek to establish whether the banks can weather a series of adverse scenarios over the next two years.
They include a worsening in the eurozone sovereign debt crisis, a global negative demand shock in the United States, sliding property markets, and major depreciation in the US dollar.
Traders are speculating that between 10-15 financial institutions could fail the crucial new assessment.
In a gloomy development on Wednesday, German regional bank Helaba announced it had failed to pass.
The new tests are designed to combat criticism over last year’s banking sector review which found that just seven out of the 91 European banks inspected were vulnerable to economic stress.
Of the 91 lenders examined in 2010, five in Spain, one in Germany and one in Greece failed to pass.
Two troubled Irish lenders, Allied Irish Banks and Bank of Ireland, passed the tests but subsequently had to be nationalised, and later the Irish government had to be rescued with an enormous multi-billion-euro EU-IMF bailout loan.
“Last year’s stress tests turned out to be not that stressful,” VTB Capital economist Neil MacKinnon told AFP.
“As a result, investors did not have much confidence in the test results and a lack of confidence remained as regards the true state of eurozone banks.
“Friday’s stress tests may end up being little different in terms of alleviating investors’ concerns.”
The European Union’s 27 finance ministers, meeting on Tuesday, said that any “necessary remedial actions” would be taken following the result of the tests.
Three years on from the global financial crisis many developed nations are buckling under the weight of huge public spending and bank bailouts which were aimed at fixing the financial mess.
That has shifted the spotlight onto the eurozone’s most fiscally-challenged nations — Portugal, Ireland, Italy, Greece and Spain — and sparked genuine concern over the euro’s future.
The International Monetary Fund and European Union have already bailed out Greece, Ireland and Portugal to the tune of hundreds of billions of euros, while the initial Greek rescue package has been deemed insufficient.
“The fact is that the eurozone debt and banking crisis has yet to be properly resolved in that the deadly embrace between under-capitalised banks and over-indebted governments threatens the longer-term viability of monetary union,” MacKinnon added.
The EBA replaced the Committee of European Banking Supervisors (CEBS), which carried out the previous round of stress tests that were announced in July 2010.
It is coordinating the new tests alongside national supervisory authorities, the European Systemic Risk Board (ESRB), the European Central Bank and the European Commission.