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15th Dec 2019

EU banks more vulnerable to shocks than feared

  • Eurozone's second-biggest lender is laying off 18,000 staff worldwide (Photo: Reuters)

Eurozone banks might be much more vulnerable to a repeat of the 2008 financial crisis than EU "stress-tests" have said, according to a new audit.

The tests, published last year, excluded many of Europe's weakest banks, ignored key factors that could cause a bank to fail, and used simulations which had nothing to do with the 2008 crisis, the European Court of Auditors (ECA) in Luxembourg said on Wednesday (10 July).

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They also gave too much weight to national regulators' opinions, which tended to favour their home countries, and the seven staff who carried out the stress-testing at the European Banking Authority (EBA), the EU bank watchdog, were too few to do a proper job, the court added.

The audit comes amid news that Deutsche Bank, the second biggest lender in the EU, is firing 18,000 staff.

The German bank already did badly in the EBA's last test, but the negative audit suggests that its problems could be even worse than previously thought.

The 2018 EBA test included just 48 banks, down from 90 in its first survey in 2011, because it changed the criteria so that its "actual threshold" covered banks which held €100bn or more in consolidated assets "to the exclusion of some countries with weaker banking systems", the audit noted.

It excluded banks which were undergoing restructuring even though these were "amongst the most vulnerable".

It also failed to cover lenders with a high share of non-performing loans or high exposure to domestic or international sovereign bonds.

It did so even though "non-performing loans were the cause of most bank bail-outs after the financial crisis", the ECA warned.

It also used a model in which bank "stress" was generated "from an economic downturn rather than from a shock originating in the EU financial sector" or from "a financial shock triggered by failures of large financial institutions".

It used that model despite the fact the 2008 crisis was triggered by the collapse of US bank Lehman Brothers - the kind of shock which the EBA's own studies have said was still a key "systemic risk".

On top of this, the EBA testing relied on a method in which national regulators created stress scenarios and in which the banks themselves gave estimates on the potential impact.

But this gave "rise to tensions" as national regulators on the EBA's board of supervisors "may defend purely national interests without taking sufficient account of the wider European interest", the auditors noted.

The national authorities were "systematically more positive in their assessment of their own countries than of the situation in the EU as a whole," they added.

The EBA did run some "automated checks on the data submitted" by national bodies.

But since the watchdog, which was then based in London, but which later moved to Paris due to Brexit, had just seven staff working on the whole exercise, those checks were far from sufficient, the ECA said.

The 2018 EBA survey found that none of the 48 banks put under its microscope failed its capital threshold test.

But the rosy picture "may have been due not to their better health, but rather to a lower stress level being applied".

"European banks should have been tested against more severe financial shocks," Neven Mates, the member of the ECA responsible for the report, also said.

The audit comes as woes multiply in Deutsche Bank, compounding fears that Europe could face its own Lehman Brothers-type fiasco.

The German lender has suffered three years of losses, multiple money-laundering scandals, and saw its shares fall by 40 percent last year.

It already scored among the 10 worst of the 48 lenders in the survey and it reacted to its 2018 score by saying "we will not change how we manage the bank after the stress tests".

But Wednesday's audit suggests its real position could be even more wobbly than previously feared.

And the EBA's replies to the ECA report echoed that of Deutsche Bank last year, with the watchdog saying it "cannot cover all systemic risks, but focuses on the most important ones" only.

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