The European Banking Authority (EBA) has issued new guidelines, under which European Union (EU) banks will undergo tougher stress tests that require them to show they can withstand a further severe recession in which the region’s gross domestic product (GDP) would fall 7% short of current forecasts.
Under the EBA’s adverse scenario, the EU economy would undergo a two-year recession, shrinking by 0.7% this year and 1.5% in 2015, followed by minimal growth in 2016. Unemployment across the bloc’s 28 member states would reach a record 13% in 2016, while house and stock prices would collapse by 14% and 19% respectively accompanied by a spike in interest rates on government and corporate debt.
The tests are tougher than those issued in 2011, when the EBA projected a worst-case scenario of a 0.5% drop in GDP. Those tests were criticised as being overly lenient, with 18 of the 27 EU countries at the time showing weaker growth than the ‘adverse’ case they were tested for.
The EBA wants the new tests to keep banks in check and prevent financial collapses that lead to taxpayer bailouts. “It will provide a common framework for the next stops to be taken by supervisors and banks,” said EBA chairman Andrea Enria.
The revised guidelines come five months before the European Central Bank (ECB) becomes the EU’s official banking regulator. The central bank wants banks to clean out the worst of their non-performing loans and assets, which could be weighing down their balance sheets.
Banks that fail to meet the capital requirements will have to submit plans on how they plan to raise capital, either from investors, from asset disposals s or from retaining profits instead of paying dividends.
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