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News : EU Economy Last Updated: Mar 11, 2011 - 8:37 AM

European Banking Authority defends stress tests of EU banks; Criticism based on "a few points out of context"
By Michael Hennigan, Founder and Editor of Finfacts
Mar 10, 2011 - 2:37 AM

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The Deutsche Bank towers in Frankfurt, seen through artist Max Bill's statue Continuity - - Durch die Statue 'Kontinuität' von Max Bill

The European Banking Authority (EBA) said on Wednesday that the current stress tests of EU banks will be tougher than last year's sham  and termed criticism as being based on "a few points out of context."

"It is a fact that the scenario of the 2011 EU-wide stress test is tough, and more severe than last year," EBA chairman, Andrea Enria, said in a statement on Wednesday.

"You need to look at the whole package of what is in the new stress tests, not just pick on a few points out of context," Enria added.

The new-pan European supervisory authority said that the standards and scenarios to be used in the stress tests on 88 of the Europe's biggest banks are sufficient to determine if any banks will be forced to raise more capital.

Last year, within months of passing the tests, Bank of Ireland and Allied Irish Banks were deemed to have insufficient capital.

Critics have focused on the fact that regulators in individual countries will have discretion over parts of the tests, such as the definition of an important capital ratio known as Tier 1. The Wall Street Journal reported Tuesday that the EBA has told regulators they can use a local standard of the Tier 1 capital ratio, just as individual countries did in last year's stress tests.

Crucially, some of the scenarios under "adverse" macroeconomic conditions are seen as mild. In the case of Ireland, the tests see Ireland's economy contracting by about 1.6% this year, followed by 0.3% growth in 2012 under a worst-case scenario.

Reuters reports that an outline of the tests it has seen requires that banks be tested for their resilience in the face of a four percentage points dip over two years from forecast economic growth, compared with three percentage points in the 2010 test.

The economic outlook this year is improved compared with last year and the EBA said there will be tougher assumptions to prevent banks from getting around the stress test by shifting assets around their balance sheets.

The Wall Street Journal says Germany's 8 public sector Landesbanks lobbied for exclusion of their banking books, which hold much of their sovereign-debt exposure. They argue that the stress tests shouldn't apply to their banking books because banks hold securities there that they intend to keep until they mature, in contrast to their trading books, which hold debt banks intend to sell.

“We should never have let them go,” Roger Nightingale, strategist at Pointon York, told CNBC on the state rescue of Lloyds and RBS. “We should not buy up failing banks, it’s obvious it was a mistake.”

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