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By Jeremy Warner Economics Last updated: November 23rd, 2010
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Dark clouds are looming over Europe's banks
Remember last summer’s famous stress testing of European banks? This was meant finally to put the lid on the European banking crisis by reassuring the money markets that eurozone banks were essentially solvent.
Temporarily it seemed to work. For a few months things calmed down. But now the tests have turned out to be not just demonstrably worthless, but in some cases downright dishonest too.
Take Ireland, whose insolvent banks have now so completely overwhelmed the public finances that it is being forced to seek a joint EU/IMF bailout. Less than four months ago, the Committee of European Banking Supervisors pronounced the Irish banking system to be completely sound.
True enough, the stress testing wasn’t applied to the big daddy of Ireland’s banking calamity, Anglo Irish Bank, because that was already in national ownership. But it was applied to the now almost equally bust Allied Irish Banks, which was pronounced to have a comfortably adequate tier one capital buffer of 6.5 per cent. Bank of Ireland was even better at 7.1 per cent.
Economic and financial conditions have deteriorated further in Ireland since then, but that was the whole purpose of the stress testing – to reassure that capital was adequate to withstand the worst the economy could throw at it. The tests were meant to be a “what would happen to the capital ratio if everything goes wrong” type exercise.
The key variable was to test banks against a 3 per centage point deviation in GDP from the central European Commission forecast. You might not thinking this hugely testing, but in fact no European economy has yet deviated by that much. National regulators also applied their own local criteria which in Ireland’s case were naturally said to be much more exacting than the common European tests.
Most of us said at the time that the tests had been designed for banks to pass, yet the fact is that it is now hard to believe they took place at all. Conditions have no where near deteriorated as far as the tests had assumed, yet still Allied Irish looks essentially bust. In other words the tests were a lie.
If the Irish stress tests were a sham, what about the rest of the eurozone?
Tags: Allied Irish Banks, Anglo Irish Bank, Bank of Ireland, Committee of European Banking Supervisors, European stress tests
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