Banks in Europe fail stress test

La­hore, Is­lam­abad, Karachi Thurs­day, De­cem­ber 09, 2010, Muhar­ram 02, 1432

The Pak Banker - - Front Page -

FRANK­FURT: In the five months af­ter the U.S. pub­lished re­sults of its 2009 bank stress tests, the Stan­dard & Poor's 500 Fi­nan­cials In­dex rose 25 per­cent.

The fail­ure of the EU tests to re­store con­fi­dence in the re­gion's banks was un­der­scored last month when Ire­land di­rected its two biggest len­ders, both of which passed the ex­ams, to raise ad­di­tional cap­i­tal. Since July 23, when the re­sults were dis­closed, the av­er­age cost of in­sur­ing the se­nior debt of 110 Euro­pean banks against de­fault has surged 114 ba­sis points, or 1.14 per­cent­age points, more than 30 times as much as for the 34 largest U.S. banks whose credit-de­fault swaps are tracked. Now, amid a widen­ing Euro­pean debt cri­sis, reg­u­la­tors from 27 na­tions are search­ing for ways to im­prove the tests, which will be re­peated next year. That won't be easy as long as na­tional lead­ers and cen­tral banks re­main un­will­ing to cede bank over­sight to a cen­tral author­ity, said Nicolas Veron, a se­nior fel­low at Bruegel, a Brus­sels-based eco­nom­ics re­search group.

"Fi­nan­cial na­tion­al­ism pre­vented the tests from be­ing cred­i­ble or re­ally use­ful," said Veron, who's also a vis­it­ing fel­low at the Washington-based Peter­son In­sti­tute for In­ter­na­tional Eco­nom­ics. "Na­tions view the bank tests as a com­pet­i­tive game among coun­tries and not as a way to en­sure the com­mon good of Euro­pean fi­nan­cial sta­bil­ity."

To be more cred­i­ble, the next bank tests need to take into ac­count the risk of sov­er­eign de­fault --some­thing not all na­tions may be will­ing to do, ac­cord­ing to Peter Hahn, a for­mer Cit­i­group Inc. banker who lec­tures on fi­nance at Cass Busi­ness School in London. With Euro­pean len­ders hold­ing 191 bil­lion eu­ros ($255 bil­lion) of Greek, Ir­ish and Por­tuguese debt, ac­cord­ing to Gold­man Sachs Group Inc., any re­struc­tur­ing of na­tional debt could force banks to raise more cap­i­tal. "The con­cept of Euro­pean govern­ment de­fault and the po­ten­tial in­abil­ity to back­stop banks are the key is­sues for the mar­kets," Hahn said in an in­ter­view. "To­day, very few peo­ple have much con­fi­dence in their bank. Con­fi­dence is in the nation that backs up your bank, not in your bank."

In­vestors have less con­fi­dence in Euro­pean banks than in their U.S. com­peti­tors. The price-to-book ra­tio of the 50 largest Euro­pean banks is 0.76, com­pared with 0.97 for the top 50 U.S. banks, Bloomberg data show. That means the mar­ket value of Euro­pean len­ders is on av­er­age only 76 per­cent of the value of their as­sets, sug­gest­ing in­vestors don't be­lieve banks' as­sets are worth what they say they are. In 2007, the ra­tios for Euro­pean and U.S. banks were 2.15 and 2.14.

Us­ing stress tests to calm mar­kets is "an abuse of the tech­nique," said Simon Glee­son, a fi­nan­cial reg­u­la­tory lawyer at Clif­ford Chance LLP in London.

"Stress tests are a use­ful tool if they are used by peo­ple who know how to in­ter­pret the data well," Glee­son said. "Prop­erly con­ducted stress tests re­quire a wide va­ri­ety of sce­nar­ios and pos­si­ble out­comes with no sim­ple an­swers." The Euro­pean Cen­tral Bank --the re­gional coun­ter­part of the U.S. Fed­eral Re­serve --isn't re­spon­si­ble for bank su­per­vi­sion. In­stead, the ex­ams were co­or­di­nated by the Com­mit­tee of Euro­pean Bank­ing Su­per­vi­sors, a London-based fo­rum for na­tional reg­u­la­tors that will be re­named the Euro­pean Bank­ing Author­ity Jan. 1. -PB News

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