EU regulator says banks to face 'credible' stress tests

(LONDON) - Europe's banks face more stress tests that are designed to be more "credible" than the previous assessments last year that mostly gave them a clean bill of health, EU authorities said Friday.

The eurozone's banking sector will be tested on their ability to weather slumping economic output and house prices, a rise in unemployment and a worsening in the eurozone debt crisis, the London-based European Banking Authority (EBA) said.

The new assessments, due to begin later this month, are designed to combat criticism over last year's stress tests which claimed that just seven out of 91 European banks were vulnerable to economic stress.

"We have learned from last year's exercise. We have strengthened the exercise quite significantly. We want to run a credible test," said EBA chairman Andrea Enria.

The EBA said the exact publication date of the results and the sample of the banks would be disclosed "shortly", as discussions were still ongoing with national supervisory authorities.

The new tests are "designed to assess the resilience of the European banks to hypothetical external shocks" and will cover more than 60 percent of the EU's total banking assets, the EBA added in a statement.

"The stress test assesses what might happen to banks if external circumstances deteriorate markedly, and helps to identify vulnerabilities and relevant remedial action, including strengthening capital levels where this is needed," it said.

Of 91 European banks tested last year, only seven -- five in Spain, one in Germany and one in Greece -- failed to pass.

Two troubled Irish banks, Allied Irish Banks and Bank of Ireland, passed the tests but subsequently had to be nationalised, and later the Irish government need to be rescued with an enormous multi-billion-euro EU/IMF bailout loan.

The EBA replaces the Committee of European Banking Supervisors (CEBS), which carried out the previous stress tests that were announced in July 2010.

"The adverse scenario, designed by the ECB, is more severe than the 2010 CEBS' exercise in terms of deviation from the baseline forecast and probability that it materialises," the EBA added on Friday.

"It includes a marked deterioration in the main macro-economic variables, such as GDP, unemployment and house prices.

"The adverse scenario also includes a specific sovereign stress in the EU leading to further falls in the price of some EU bonds from the already stressed levels seen at the end of 2010."

Under the adverse scenario, eurozone GDP shrinks by 0.5 percent this year, which contrasts with the official EU forecast of 1.5-percent growth.

The EBA is coordinating the tests alongside national supervisory authorities, the European Systemic Risk Board (ESRB), the European Central Bank and the European Commission.

"The capital threshold will be focused on a definition of core tier 1 capital which is more restrictive than the tier 1 capital threshold used last year," added the statement.

"The EBA is currently redefining common criteria for core tier 1 capital that will be applied consistently across the EU."

The new round of stress tests are due to begin later this month and will run until June 2011. The results are scheduled for publication on a bank-by-bank basis in mid June.