August 14, 2022

After Test Results, European Banks Are Urged to Bolster Reserves

The high pass rate under the exams did not satisfy analysts’ hopes for a bolder accounting that would help restore confidence in the health of the European Union financial system and remove doubt about the effects of a default by Greece on its government debt.

After a vast data-crunching exercise by regulators, only eight of 90 banks were deemed too weak to survive economic shocks like a further deterioration in the sovereign debt crisis.

A ninth bank, Helaba of Germany, would have failed, but refused to disclose its data. An additional 16 passed narrowly, and will be asked to take steps to “promptly” increase their resilience, by raising more capital for example, the regulators said.

“The publication of these results will not assuage investors’ fears over the resilience of the E.U. banking sector,” Marie Diron, an economist who advises the consulting firm Ernst Young, wrote in a note.

Of the banks that failed, five were in Spain, two in Greece and one in Austria, said the European Banking Authority, which conducted the tests.

All were relatively small players. But the stress test results could also put pressure on some giant banks that have been regarded as healthy, including Deutsche Bank in Germany, UniCredit in Italy, and Société Générale in France. Capital reserves at all three were uncomfortably close to the level where they would have been formally asked to either raise more capital or reduce risk.

The test results come amid rising anxiety that Greece is on the verge of defaulting on its debt, an event that could provoke a banking crisis because so much of those bonds are parked on the balance sheets of European financial institutions. As a result, the stress tests have clear implications for the overall health of the euro zone.

“To me the real question is not stress in the institutions, but the ability of states to control the sovereign debt” problem, Paolo Bordogna, head of financial services in Europe for the consulting firm Bain Company, said ahead of the release of the results.

Analysts had been skeptical that the tests this year were rigorous enough to clear up doubts about the European banking system and to encourage institutions to begin lending to each other again rather than relying on the European Central Bank for funds.

The European Banking Authority, for example, did not examine what would happen if Greece proved unable to pay its debts, which critics saw as a major flaw.

“This year’s tests still did not include the impact of a formal debt default by a European government, which is the single greatest risk facing the European banking sector at present,” Ms. Diron wrote.

But European officials argued that, even if people thought the test was too forgiving, they now had a huge amount of data they could use to run their own stress evaluations, including detailed information on bank holdings of government debt.

“We are putting out a lot of information so that investors and analysts can make up their own minds,” Andrea Enria, the chairman of the E.B.A., said by telephone. Mr. Enria defended the integrity of the stress test. The test imagined that banks had to absorb a sharp recession and surge in unemployment, which implied banking losses that were twice as high as in 2009, the height of the financial crisis, he said.

The E.B.A. said that at the end of last year, 20 banks would have failed the test. But in the first four months of this year, banks raised about 50 billion euros ($71 billion) in new capital.

The release of the tests occurred after markets closed in Europe and had little effect on stocks in the United States. The Dow Jones industrial average rose 42.61 points, or 0.34 percent to 12,479.73, and the Nasdaq rose 27.13 points, or 0.98 percent, to 2,789.80. The dollar’s value against the euro was also little changed at $1.42.

Guy LeBas, the chief fixed-income strategist for Janney Montgomery Scott, said that the number of banks that failed was within expectations. “That was give or take the number the markets were betting on,” he said. It was also positive that most of the weak banks were in Spain, a country where the central bank has a good reputation for dealing with weak institutions.

Raphael Minder contributed reporting from Madrid and Christine Hauser from New York.

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