Methodology for eurozone bank 'stress tests' will be confirmed by March, says ECB, as it confirms 5.5% capital threshold

Out-Law News | 04 Feb 2014 | 1:53 pm | 1 min. read

The eurozone's central bank will apply the same capital thresholds when 'stress testing' top lenders as announced by the European Banking Authority (EBA) for its EU-wide checks, it has announced.

However, the European Central Bank (ECB) said that it was still finalising how it would carry out its anticipated asset quality review (AQR) of banks in the eurozone, the second phase of a three-part assessment process which will enable banks to identify underperforming loans and investments. It intends to confirm its strategy for this by the end of March, according to an announcement made on Monday.

"Preparations for the stress test are well underway and we are confident that, in close coordination with the EBA, the outcome will be transparent and credible, boosting the European banking sector," said ECB vice-president Vitor Constâncio. "We have noted that capital and provisioning measures have been taken since the exercise was announced. Banks are frontloading preparations for the comprehensive assessment, and are strengthening their balance sheets, which is a welcome development."

The ECB will become the single supervisor for banks in the eurozone in November.

Last week, the EBA published the methodology that both it and the ECB will use when stress testing banks. It has not yet confirmed what type of stresses will be applied to lenders as part of those tests, but has said that these will include credit risk, market risk, sovereign risk, securitisation and cost of funding. The EBA is made up of banking regulators from both the eurozone and other EU countries, and the ECB will become a full member of it when it begins supervising banks in the eurozone.

To pass the tests, banks will need to be able to maintain a capital ratio of 8%, dropping to 5.5% during the most stressed scenarios, and will cover the three years to Decmber 2016. The test will be based on a 'static' balance sheet, meaning it will assume no growth or risk management actions, such as planned asset sales, during the period being tested. National supervisors can choose to include additional risks or higher capital thresholds as part of the test, but these will have to be published separately so that the results of the tests can be interpreted consistently.

While the ECB's tests will only apply to those banks that will fall within its regulatory remit from November, the EBA's tests will include non-eurozone banks including those in the UK. It plans to test a sample of 124 EU banks covering at least 50% of each national banking sector.