ECB review detects €25bn short-fall at Eurozone banks, analysts sceptical

The results of the European Central Bank’s ‘comprehensive assessment’, published on Sunday 26 October, uncovered a total capital short-fall of €25bn at the Eurozone’s largest banks.

The assessment was comprised of two elements, a so-called Asset Quality Review (AQR) and a separate “stress-test”. Whereas the AQR was meant to quantify and determine whether bank’s assets were correctly valued as of 31 December 2013, the latter was meant to reveal how lender’s balance sheets would respond in the event of an ‘adverse’ macroeconomic scenario.

The hope of policymakers is that if the stress tests are credible enough then it will eliminate the uncertainty which is thought to be impeding the flow of credit within and between the different member states of the single currency area, by reducing counter-party risk for example.

Analysts unconvinced and wary

Some experts however believe that too much emphasis in being put in such analysis. Thus, shortly before today's results Erik F.Nielsen, Global Chief Economist at UniCredit Research wrote that: "By far the greatest share of the “lending problem” is a demand problem.

"In the Eurozone, lending to the corporate sector has always lagged GDP by 6-9 months, and I see no reason why this should be materially different this time. Thinking that lending somehow can lead GDP is an illusion, and I don’t know how that has somehow crept into the policy debate."

Nielsen also bemoans the lack of any attempt to 'rope'-in' what many refer to as the 'shadow' banking system - refering to hedge funds - and a possible drive by regulators world-wide to further jack-up banks' capital obligations. Doing so over the next few years would be "sheer madness" he argues.

A total of 132 banks, with €22trn in assets, were put under the microscope during the AQR. That represented 82% of the total banking assets in the euro area.

According to the AQR the accounting book values of the lenders needed to be adjusted by a total of €48bn, while banks’ non-performing exposures were found to be €136bn greater than previously thought, bringing the total to €879bn.

Under the stress-test banks were asked to demonstrate they could maintain a common equity Tier 1 (CET1) capital ratio of 8% under a baseline scenario and a minimum CET1 ratio of 5.5% under the adverse scenario.

The main finding of the stress-test was that under an adverse scenario banks’ capital would be depleted by €263bn, cutting the median CET1 ratio to 8.3% from 12.4%.