By Dow Jones Business News, October 21, 2013, 05:25:00 PM EDT
FRANKFURT--The European Banking Authority moved to make it easier for investors to compare the health of euro-zone
banks, proposing common definitions in areas such as when bank loans have turned sour.
The London-based group's recommendations come as the European Central Bank gets ready to conduct a review of banks"
balance sheets, preparing for its upcoming role as the top supervisor of euro-zone lenders. The ECB will conduct its
review in the first half of 2014, and is expected to start supervising banks toward the end of next year.
On Wednesday, the central bank will hold a news conference to give details on how it will handle its review.
Bank assets such as loans should be classified as nonperforming if payments are more than 90 days overdue, the EBA
said. The banking authority also is preparing standards for the use of forbearance, allowing investors to compare banks'
use of concessions to borrowers who have run into trouble.
Clearly defining nonperforming loans and forbearance will let the ECB compare euro-zone banks across borders more
easily. One of the key hurdles that investors face is different definitions for nonperforming loans, said Lee Tyrrell-
Hendry, an analyst at Royal Bank of Scotland. Italian banks, for example, apply slightly stricter definitions in
classifying nonperforming loans than other banks, he said.
The ECB Monday welcomed the banking authority's proposals and said it will incorporate them. In addition to the review
of banks' balance sheets, the central bank will also conduct a stress test in conjunction with the EBA to see whether
lenders could weather an economic crisis.
The euro zone emerged from a lengthy recession during the second quarter, but the pickup has been weak and uneven. In
annualized terms, economic growth has only been around 1%, and unemployment is still near record highs.
For Europe to achieve a durable, jobs-filled rebound, it needs to fix its banks. Lending markets are fragmented along
national lines, meaning small businesses in recession-hit countries such as Spain and Italy pay far higher interest
rates on loans than their German counterparts.
Despite record-low ECB interest rates and abundant cash in the banking system, lending to the private sector continues
to shrink in the euro zone.
The ECB is eager to ensure the stress tests are stringent enough. A number of banks passed a round of tests in 2011,
only to collapse shortly afterward.
"To be credible, [the stress tests] have to be transparent and rigorous, otherwise they are useless," ECB President
Mario Draghi told reporters this month.
Another problem is finding the money to recapitalize weak banks. Although governments have promised to provide up to
EUR50 billion ($68.4 billion) to help with recapitalization, they remain at odds over the conditions under which the
money can be used.
A survey of 146 investors by Morgan Stanley indicated that a majority expect the stress tests to reveal an overall
capital need of no more than EUR50 billion, and that between five and 10 banks could fail. It pointed in particular to
German, French and Italian banks as the most likely to see negative outcomes.
Current market valuations suggest investors don't expect to see a major disaster as a result of the ECB review. The
banking sector index is up 20% over the last six weeks. "There's a sense of investability that wouldn't have been there
three or four months ago," said Carla Antunes Da Silva, an analyst at Credit Suisse.
She argued that time is now on the side of the region's retail banks: Lenders are no longer having to increase their
reserves against bad loans and are able in some cases to release them. At the same time, funding costs are low, Ms. Da
Some economists say the ECB could run a risk by being too tough. Credit Suisse research suggests that markets are now
valuing euro-zone bank shares at 0.9 times their book value, indicating markets have returned to relative calm.
An excessively stringent review, economist say, could shake confidence in the sector, making it harder for banks to
"All the metrics of banks have improved a lot. The economy has improved and the markets are calm," said Paul Mortimer-
Lee, economist at BNP Paribas. "Let's not cause too many waves when the boat is just starting to go forward."
Brian Blackstone contributed to this article.
Write to Brian Blackstone at firstname.lastname@example.org
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