Results of bank stress tests is anybody’s guess

Review designed to assess banks’ resilience to hypothetical external shocks

In theory, the Irish banks should sail through this process. They’ve been put through their paces a few times since the spectacular crash of the Irish economy in 2008.

In theory, the Irish banks should sail through this process. They’ve been put through their paces a few times since the spectacular crash of the Irish economy in 2008.

Wed, Apr 30, 2014, 01:14

The waiting is finally over for Irish banks, who now know what is expected of them by the European Banking Authority if they are to come through the EU-wide stress tests, which they have been fretting over for some time.

These tests are being carried out in conjunction with the European Central Bank in advance of the establishment of the Single Supervisory Mechanism (SSM) for euro zone banks.

The stress test is designed to assess banks’ resilience to hypothetical external shocks, with a view to identifying remaining vulnerabilities in the EU banking sector and providing a high level of transparency into banks’ exposures. It is regarded as a stiffer measure of the banks’ financial strength than similar exercises carried out in recent years.

In theory, the Irish banks should sail through this process. They’ve been put through their paces a few times since the spectacular crash of the Irish economy in 2008. This has included regular updates for the EU-IMF troika as part of our bailout programme.

Having also gone through the trauma of transferring billions of euros of property-related loans to Nama in 2010 and having submitted detailed restructuring plans to the European Commission following their State aid, you would be forgiven for thinking there is little about their balance sheets that could surprise the Irish banks.

They’ve also been hoarding cash to give themselves a sufficient capital buffer ahead of these tests.

However, so complex are the rules and scenarios around the tests that none of the State-backed Irish banks – AIB, Bank of Ireland, or Permanent TSB – was willing to offer a comment yesterday on the criteria laid down by the EBA. They all said they needed time to study carefully the methodology being applied.

Too many variables

Analysts were similarly reticent to offer a definitive view on the implications for

the Irish banks. There are simply too many variables to consider for a snap judgment to be reached, they said.

There is certainly a lot to be considered. The EBA has released the macroeconomic scenarios, developed by the European Systemic Risk Board, that will be used to assess the impact that changes in the economic environment have on EU banks.

These relate to GDP growth, inflation, unemployment levels, residential and commercial property values and sovereign bond haircuts.

At a bank level, assumptions have to be made around a number of metrics, including revenues, provision coverage levels and wholesale funding costs.

The reality is we won’t know the results until we know the results, which will be some time in October. The SSM will then begin its work in November.

There are essentially two strands to the process – an asset quality review (AQR) undertaken by the European Central Bank and the national regulators, and the stress tests by the EBA.

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