According to the European Banking Authority (EBA), banks in Europe have remained resilient during its most recent stress test, despite being put through a tougher scenario, which combines a severe EU and global recession, increasing interest rates and higher credit spreads.
Higher earnings and better asset quality at the beginning of the 2023 helped moderate capital depletion under the adverse scenario, according to the report. “Despite combined losses of €496bn, EU banks remain sufficiently capitalised to continue to support the economy also in times of severe stress,” said the EU agency.
The 2023 stress test, which covers a three-year horizon (2023–25), assessed a total of 70 lenders, 20 more than in 2021. Fifty-seven were from 11 eurozone countries, representing about 75% of the bloc’s total assets, as well as 13 banks from Denmark, Hungary, Norway, Poland and Sweden.
The banks’ fully loaded common equity Tier 1 (CET1) ratios fell on average by 459 basis points (bps) to 10.4% in the tougher scenario, compared with a 485bps decline to 10.2% in 2021, according to Moody’s Investors Service. However, the rating agency added that a year-on-year comparison is flawed, as scenario assumptions and test participants have changed. According to Moody‘s: “[The] deterioration in 2023 is more modest in part because of stronger growth in banks' simulated earnings and better asset quality at the start.”
Taking a deeper dive into the results, Moody’s found that almost one third of banks do not comply with CET1 requirement. For 22 of the 70 banks, the stressed CET1 ratio fell below the CET1 requirement in the adverse scenario. However, the capital shortfalls were “very limited”, leaving those banks with a material amount of own funds, according to the rating agency.
Banks in Norway, Poland and Sweden were the most resilient in terms of capital, with stressed capital ratios remaining above the EU average of 10.4%, while lenders in France, Germany, the Netherlands and Spain had below average capital ratios.
The European Central Bank’s parallel test of 41 smaller institutions under its direct supervision, known as the Single Supervisory Mechanism (SSM) test and based on the same methodology as the EBA exercise, showed that smaller banks absorbed a moderately larger hit to capital under stressed conditions than their larger peers.
The average decline in SSM banks’ CET1 ratio was 478bps in the adverse scenario. According to Moody’s: “This moderately higher capital depletion reflects smaller banks’ more focused business models and narrower asset diversification. This results in higher concentration risks and therefore higher losses.”
More on the EBA
Climate risk was not explicitly considered in the scenario of the 2023 EU-wide stress test. However, the EBA is working to address its new mandates on climate risk stress testing, focusing on the Fit-for-55 climate risk scenario analysis. According to the EU supervisor, a new element in the climate-risk analysis is its cross-sectoral and system-wide nature, as opposed to the standard solvency banking stress test which focuses only on the banking sector.
The primary aim will be to assess the resilience of the financial sector in line with the Fit-for-55 package, while gaining insights into the capacity of the financial system to support the transition to a lower-carbon economy even under conditions of stress. The Fit-for-55 scenario analysis will be launched by the end of 2023, with results expected by the first quarter of 2025.
On July 20, the EBA launched a public consultation to collect climate-related and financial information on credit risk, market and real estate risks as of December 2022. The consultation runs until October 11.
Joy Macknight is editor of The Banker. Follow her on Twitter @joymacknight
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