Europe’s biggest banks will be tested this year on their ability to weather a sharp decline in economic growth, a surge in unemployment and a decline in property prices that could result from Brexit.
The stress test of 48 lenders that represent about 70 percent of European Union banks’ total assets is designed to include “a wide range of macroeconomic risks” possibly stemming from Britain’s withdrawal from the bloc, the European Banking Authority said. Supervisors such as the European Central Bank will factor the results, set for publication by Nov. 2, into their annual assessment of banks’ resilience.
The toughest scenario in this year’s health check includes recessions in the EU this year and next, returning to 0.7 percent growth in 2020. The EBA said the test has the “most severe scenario” for economic growth of any so far.
Regulators around the world began stress-testing in the wake of the financial crisis to assess the strength of banks and their ability to withstand future shocks. The EU’s early efforts in 2010 and 2011 were criticized for failing to uncover weaknesses at banks that later collapsed.
The EBA gave the test sharper teeth in 2014, flunking 24 lenders with a capital shortfall of 24.6 billion euros ($30.6 billion). But in 2016, and again this year, the EBA set no hurdle rates or capital thresholds, meaning banks can’t fail.
The test also incorporates new accounting standards known as IFRS 9 for the first time. As a result, “banks are requested to account for credit impairments not only for a 12-month perspective but also based on the lifetime credit losses.”
“European banking supervision will, on a case-by-case basis, decide whether banks with a shortfall in the adverse scenario need to recapitalize,” Daniele Nouy, who heads the ECB’s supervisory arm, said earlier this month. “All in all, the stress test will be a moment of truth for the banks.”
The ECB will run the test on 37 euro-area banks, including the four largest lenders in Greece. The results for the Greek banks are set for publication in May, allowing the banks time to seek fresh capital before the end of the country’s bailout program in August.
The benchmark FTSE/Athex Banks Index rose after Bloomberg reported details of the scenario, with some investors expecting that the test would be tougher. Bank stocks closed 4.3 percent higher in Athens, gaining the most in almost a month.
The ECB said in a statement that it will also conduct a parallel stress test of banks it supervises directly that aren’t in the EBA sample.