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EU banks told to test for 2 bad scenarios

Details have come to light of how the banks should perform the stress tests initiated by the European Central Bank. Banks are asked to test for two adverse scenarios.

 

Europe's banks have been asked to estimate how much additional capital they would need under two adverse scenarios as part of stress tests aimed at reviving confidence among investors, reports Reuters.

The stress test process will be a hot topic when some 40 top bankers, including the heads of Deutsche Bank and UniCredit, meet European Central Bank President Jean-Claude Trichet in Frankfurt later today.

Europe is testing 91 banks on how they would cope with another economic downturn and losses on some government debt, in an effort to restore confidence after the Greek crisis hit markets and sparked fears the eurozone could unravel.

With few details available about the terms of the test and early divisions among the 27 members of the European Union over how much to divulge, markets had begun to worry that the assessments would not be tough or transparent enough.

According to a document sent to banks and seen by Reuters on Wednesday, banks must estimate how much more capital they might need to achieve a Tier 1 capital ratio of 6 percent under the scenarios.

They have been asked to estimate their Tier 1 capital ratio at the end of 2011 under a base scenario, an adverse scenario including two years of economic deterioration, and an adverse scenario with an "additional sovereign shock."

Under the harshest scenario, banks are asked to include cumulative losses for this year and 2011 for "additional losses on sovereign exposures in the trading book" and impairment losses on the banking book.

"We are concerned that stress assumptions will be too weak to provide real clarity," analysts at Macquarie said. "Particularly if a handful of banks that face severe domestic headwinds and no access to wholesale funding markets are given the 'all clear'."

Major listed banks are expected to pass, but the test results are expected to show the biggest problems lie with smaller players such as Spanish cajas and German landesbanks, which are mainly unlisted.

In Hungary, the only bank participating is listed OTP Bank Nyrt. Sándor Csányi, chairman and CEO of the bank has told The Wall Street Journal that he is not worried about the test's results as OTP is the fifth best provided for regarding capital in the region. The test could raise trust in the bank sector among clients and partners, he told the paper.