There were no nasty surprises in the latest European bank stress tests. Banks now have far more money set aside to cover potential losses. The tests’ adverse scenario projected a decline in GDP of 1.7% in 2015-2018, worse than the 1% drop seen in 2008-2011.
Ireland had the lowest average ratio of capital to risk-weighted overall assets, says The Economist: 5.2%. Italy’s was 6.5%, fuelling concern over Italian lenders’ long-term solvency. No state had a negative ratio, which implies systemic insolvency. In 2014, several did.
Still, there is the usual whiff of “eurofudge” in these results. The tests didn’t model the impact of a long period of low or negative bond yields, which undermine profitability. The adverse scenario was based on long-term yields spiking (implying falling bond prices).
That seems unlikely to occur soon in a world of zero interest rates, says The Economist. The tests also only looked at 53 banks, compared with 2014’s 123. Finally, banks from the struggling economies of Greece, Portugal and Cyprus were excluded, thus automatically skewing the overall picture.