Spanish banks pass the Stress Test without problems

By STEPHEN FIDLER and NEIL SHAH

The U.S. government's stress tests are fueling concerns that European banks could be falling behind in their efforts to bolster their own finances.

Unlike in the U.S., there has been no major policy initiative to force banks in Europe to increase capital cushions, and governments have intervened only on a piecemeal basis. Meanwhile, as U.S. banks pile in with efforts to raise capital from investors, European banks aren't taking advantage of a stock rally to do the same.

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The Bank of Ireland and five other financial institutions would need billions of dollars more to meet some capital standards used in the U.S. stress testing of its banks, one analysis found.

"Compared to the U.S., the European banking system is rapidly being left behind," said Philip Finch, bank analyst at UBS AG. "If anything, the rally that has taken place has allowed complacency to come back at the bank level and at the policy level."

European banks have raised only about 40% of the $1 trillion they need to cover losses since the beginning of the financial crisis and maintain healthy capital levels, according to the latest estimates from the International Monetary Fund.

By contrast, U.S. banks have raised or announced plans to raise about two-thirds of the $666 billion the IMF believes they need.

The divergence partly reflects a different attitude toward how to scrutinize battered banks. The U.K., one of a handful of European countries to stress-test its banks, never disclosed the parameters or detailed results.

A spokeswoman for the Committee of European Bank Supervisors said national authorities are carrying out stress tests of their domestic banking systems, with results due by September. The examinations are aimed at assessing the European financial system's resilience to shocks, not the capital needs of individual banks. The findings and methodology won't be disclosed publicly.

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Some bankers prefer the discreet approach. The U.S. strategy was "not the way to instill confidence in the process," Stephen Green, chairman of HSBC Holdings PLC, said in an interview Monday, noting the haggling between banks and regulators. But that openness boosted the credibility of the U.S. stress tests -- and last week's results -- in the eyes of some analysts and investors.

One reason European banks are behind those in the U.S. in raising capital: The economic downturn took as much as a year to ripple across the Atlantic Ocean. That delayed the pain for most banks, except a small number of European financial institutions that invested in shaky U.S. assets or U.K. banks hurt by a decline in real-estate values.

European banks now face potential losses from risk-taking that U.S. banks largely avoided, such as investments in Eastern Europe, which is suffering from a severe recession. Banks in Europe also are more vulnerable to skittish wholesale money markets because of their higher ratios of loans to deposits.

Weakened banks in Europe have a potentially bigger economic impact than U.S. financial institutions do, since some 80% of lending to companies in Europe is through banks, compared with only one-fifth in the U.S. If replenishing capital levels causes European banks to pull back on lending, it could slow economic recovery.

Of the $600 billion in additional capital still needed by European banks, financial institutions in the 16-nation euro zone need $375 billion, followed by $125 billion in the U.K. and $100 billion elsewhere on the Continent, according to the IMF. The IMF's figures are larger than other estimates, partly because they include all banks. In Germany, many of the so-called Landesbanks owned by individual German states are seen as needing more capital.

The U.K. has injected £80 billion ($121.88 billion) of new capital into its banks and is insuring some £562 billion of bank assets under a government program aimed at putting a lid on losses.

Analysts at investment firm Keefe, Bruyette & Woods Ltd. who attempted to replicate the U.S. stress tests for European banks came up with what they called a "broadly positive" result. Six banks with widely traded shares, including Commerzbank AG and Danske Bank AS, would need to raise a total of only about €8 billion ($10.9 billion) in capital to meet the 4% equity Tier 1 capital ratio used in the U.S. tests.

In reality, the European banks probably would want to raise a lot more capital -- as much as €60 billion -- to maintain investor and customer confidence under a bad scenario similar to one used by the U.S. government, said Andrew Stimpson, a KBW analyst.

Tonny Thierry Andersen, finance chief at Danske Bank, said the Danish bank raised about 26 billion kronor ($4.76 billion) in early May, making it the best-capitalized bank in the Nordic region. A representative for Commerzbank said the German bank is "capitalized adequately."