Forex Review: Euro Zone Bank Stress Tests

Are the ghosts of the debt crisis back to haunt the euro zone? The results of the euro zone bank stress tests are in and the numbers aren’t lookin’ too good!

As its name implies, the goal of the stress tests is to determine how euro zone banks would fare when placed under a great deal of financial stress. Think of it as one of those roller coaster simulators that make use of virtual reality and hydraulics to replicate the experience of being tossed and turned in an actual coaster ride. If you’re nauseated and throwing up after trying a simulator, you ain’t gonna survive in a real roller coaster!

These tests were conducted by the European Banking Authority (EBA), with the help of the ECB and European Systemic Risk Board (ESRB). Financial authorities in the euro zone member nations also participated in submitting and assessing data, as well as coming up with supervisory actions that need to be taken based on the diagnosis.

euro zone bank stress tests recessionOut of the 123 euro zone banks that underwent this comprehensive financial check-up, 25 lenders failed to get a clean bill of health. This means that these 25 banks are very vulnerable to credit risks and are least likely to survive in adverse economic conditions. In other words, should the euro zone fall back into recession (and it probably will), these banks are in big trouble!

In particular, Italy’s banking sector seems to be facing the biggest risks, as most of the lenders are still burdened bad loans. Some of the country’s largest banks such as Monte Paschi and Banca Carige failed the stress tests because of considerable shortfalls in their balance sheets.

Although banks from Germany and France passed the stress tests, the recession simulator indicated that German banks would suffer a capital reduction of 27 billion EUR while French banks would undergo a 30.8 billion EUR hit. And this doesn’t include the potential effects of deflation!

For now, the banks that failed the stress tests have nine months to secure funds to cover their deficits. According to Italy’s finance ministry, officials are confident that the shortfalls in their banks will be covered through “further market transactions and that the high transparency guaranteed by the Comprehensive Assessment will allow to easily complete such transactions.”

With a euro zone recession becoming more and more of a possibility, these banks need to act fast. The last thing the euro zone and the ECB need right now is the threat of a financial crisis, which might put the region in a much deeper rut than where it was back when the debt drama was at its worst. Do you think we’ll see a repeat of this euro zone crisis?