Bloomberg News

EU Said to Seek 9% Bank Capital in Response to Fiscal Crisis

October 12, 2011

Oct. 12 (Bloomberg) -- Banks face capital requirements as high as 9 percent as part of European Commission President Jose Barroso’s plans to help lenders survive the region’s debt woes, according to a person familiar with the proposals.

“Temporarily higher” capital rules should be imposed on all lenders judged by the region’s top banking regulator to be systemically important, Barroso said today. The European Banking Authority discussed a possible 9 percent threshold for banks at a meeting of its supervisory board in London last week, said the person who couldn’t be identified because the talks are private.

The region must “urgently strengthen” its lenders, Barroso told lawmakers in the European Parliament today. “The sovereign contagion and the banks are now, whether we like it or not, linked.” He said banks that can’t satisfy the new capital thresholds should be banned from paying bonuses and dividends.

The EU’s move comes after stress tests on its banks published in July showed that most lenders had enough capital to withstand a recession. Those tests were criticized for not taking into account the possibility of a sovereign default. Backing a division of labor demanded by Germany, Barroso said “systemic” banks lacking capital should first seek market finance, tap their own governments if that fails and only draw on the European rescue fund as the ultimate backstop.

Lenders’ capital levels should now be assessed taking account of “all sovereign debt exposure in full transparency,” Barroso said. Those that can’t meet the capital rules should present plans to bolster their reserves as “quickly as possible.”

Held to Maturity

The EBA has asked lenders for information on the value of sovereign debt holdings in their “held to maturity and loans and receivables portfolios,” as part of the review, according to a data template seen by Bloomberg News. Banks were also asked for “relevant changes” to their balance sheets made since June.

Lenders’ holdings of government bonds will be valued more closely to their current market price than they were during the stress tests, the person said.

The EBA is assessing how much extra reserves banks will need to raise to meet the new rules, they said.

“Details on capital ratios and evaluation methods should be proposed by the EBA with national supervisors, who are best placed to judge on this,” Barroso said.

“I’m not sure the EBA knows the answer to the question of where the money will come from to recapitalize the banks yet,” Bob Penn, financial regulation lawyer at Allen & Overy LLP, said in a telephone interview in London today. “They’re pushing themselves a bit more into the center of the debate on capital levels, which is the right thing to do.”

Basel Committee

The extra capital requirements would be measured using a definition of core reserves that was developed by the Basel Committee on Banking Supervision, and which normally wouldn’t apply until 2015. This definition is similar to that used in this years’ EBA stress tests, said the person.

Nine percent of core capital based on this definition would be roughly equivalent to the minimum 7 percent of reserves that lenders will be obliged to hold from 2019 when the Basel plans are fully implemented, the person familiar said. This is because the Basel group’s definition of capital becomes stricter over time, the person said.

Core Tier One

The possible capital ratios being considered started at 7 percent and a final figure hasn’t been decided, said a regulator familiar with the EBA discussions.

A spokeswoman for the London-based EBA declined to comment on the possible capital benchmarks.

European bank stocks jumped, with the 46-member Bloomberg Europe Banks and Financial Services Index rising 2.8 percent. National Bank of Greece SA, the country’s largest, rose 15 percent in Athens trading, while Austria’s Raiffeisen Bank advanced 14.8 percent in Vienna.

Banks would need to raise about 148 billion euros ($203.7 billion) in the event of a 60 percent writedown on their holdings of Greek debt, 40 percent for Portugal and Ireland and 20 percent for Italy and Spain, Kian Abouhossein, a JPMorgan Chase & Co. analyst, wrote in a Sept. 26 note to clients.

Barroso’s proposals will be discussed at a summit of EU leaders taking place on Oct. 23.

German Chancellor Angela Merkel said on Oct. 5 that the European Financial Stability Facility, Europe’s rescue fund, should be relied upon only as a last resort.

Eight banks failed the official European Union stress tests in July after regulators said they had a combined capital shortfall of 2.5 billion euros, less than predicted by analysts and investors.

Held to Maturity

Banks were only required to maintain a capital ratio of 5 percent and losses on sovereign debt held to maturity weren’t tested.

Requiring banks to keep a capital benchmark of 9 percent while testing for a loss on Greek debt would give lenders a shortfall of as much as 200 billion euros, according to an Oct. 7 report by a team led by Morgan Stanley analyst Huw van Steenis.

If the updated tests reveal a shortfall of less than 200 billion euros, they will “probably be dismissed by critics as inadequate, the Euro zone credit crunch will probably be intensified and the firepower of national treasuries and the EFSF could be badly depleted for no particular benefit,” Roger Francis, a banking analyst at Mizuho International Plc, said in a report today.

Under a 9 percent core Tier 1 ratio and a stress test that marked sovereign holdings to market prices, Italy’s UniCredit SpA would require about 58 billion euros, Royal of Scotland Group Plc 18.8 billion euros, BNP Paribas 15.7 billion euros and Banco Santander SA 14.7 billion euros, according to estimates compiled by Francis.

In all, European banks would require 339 billion euros of capital, he said. If regulators applied only a 50 percent haircut to Greek debt, that would fall to 144 billion euros, he said.

--With assistance from Gavin Finch and Howard Mustoe in London, Aaron Kirchfeld and Christian Vits in Frankfurt, and Karin Matussek in Berlin. Editors: Peter Chapman, Christopher Scinta

To contact the reporters on this story: Ben Moshinsky in London at bmoshinsky@bloomberg.net; Aaron Kirchfeld in Frankfurt at akirchfeld@bloomberg.net.

To contact the editor responsible for this story: Anthony Aarons at aaarons@bloomberg.net.


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