More severe stress tests on European Union banks in 2011

Stress tests on banks in the European Union must be more severe than those conducted in 2010, according to the chairman designate for the European agency coordinating the exercise.

‘I am very much aware this year we will need to do a much stronger and reliable and credible exercise. The scenarios will have to be stronger and more severe than last year,’ said Andrea Enria, who is set to become the chairman of the European Banking Authority (EBA).

The stress tests conducted in 2010 by banking supervisors on 91 banks found only seven failing and needing to raise a total of €3.5 billion in extra capital.

Since then Ireland had to be bailed out by EU governments and the International Monetary Fund (IMF) because of problems at its banks even though no Irish lender had failed the bloc's stress test.

The EBA was launched in January and will have powers to agree rules that are binding on EU states. But critics fear it will not have enough resources to do the job properly or to withstand national political pressures.

‘The first test for the authority will be the stress test for the banks. The stress test will be a very delicate exercise. First of all, stress tests are not a forecast exercise,’ Enria told lawmakers in the European Parliament.

‘We cannot rely only on conduct of stress tests by national authorities. We need peer review to ensure the results are robust,’ she added.

Regulators have come under pressure for not testing whether the buffers of cash like or liquid assets held by banks to withstand short-term shocks are adequate, so taxpayers do not have to ride to the rescue again in the next crisis.

‘Liquidity is very difficult. We cannot embody liquidity and credit risk in the same stress test exercise but we need to have a separate exercise on liquidity,’ Enria explained.

The EBA also needed to ‘manage expectations’ better, as they will know from the start that the results of this year’s stress test, due around June, will be made public, Enria said.