Europe touts banks’ health after ‘stress tests’

Reporting from London —  Europe’s banks are in relatively sound health, with only a handful in danger of stumbling badly if recession returns or the continent’s debt crisis worsens, according to results Friday of banking “stress tests” that some critics say may have been too easy.

Seven of 91 banks examined failed the tests, which assessed the institutions’ ability to withstand various shocks and were conducted as a confidence-building exercise for the European banking system. Five of the red-flagged institutions are in Spain, and one each in Germany and Greece.

The results fall roughly in line with what many analysts had expected — but that may not necessarily be good news. Experts warned that such an outcome could be seen as stage-managed by regulators who were willing to identify a few banks as shaky, but who were intent on reaffirming the overall health of the sector.

The crucial judgment on the tests’ credibility is likely to come from investors Monday. The committee that performed the tests deliberately timed the release of the results for late Friday afternoon in Europe, after the region’s financial markets had closed for the weekend. U.S. markets didn’t appear to blink at the results.

The committee’s report said the stress tests indicated “a rather strong resilience” of banks throughout the European Union. But it warned that some institutions remain heavily reliant on government support to stay afloat, so there is no “reason for complacency.”

EU officials immediately trumpeted the results as a certificate of good health for a banking sector dogged by fears that it was hiding bigger-than-acknowledged losses from the worldwide credit crunch. The EU called the results “an important step forward in restoring market confidence.”

But questions are likely to persist about whether the tests were tough enough.

In coming up with “worst-case scenarios,” regulators looked at whether the 91 banks held enough assets to weather another economic downturn. They also tested for a sharp deterioration of the debt crisis that has plagued countries such as Greece, Spain and Portugal, whose huge budget deficits have caused the euro currency to plunge in value.

Controversially, however, the worst-case scenarios did not allow for the possibility of an outright default by any of the countries, which is precisely what investors fear. Many European banks, especially in Germany and France, have large holdings of government bonds from these countries and could suddenly find themselves in hot water.

The stress tests did not include the possibility of a national bankruptcy because the EU, in conjunction with the International Monetary Fund, has already set up a $1-trillion bailout package for countries at risk.

“We don’t believe that there will be a default,” Vitor Constancio, vice president of the European Central Bank, told reporters here in London.

The 91 banks tested account for 65% of the European banking system’s assets. The seven institutions identified as cause for concern were Diada, Unnim, Espiga, Banca Civica and Cajasur in Spain, all of them unlisted regional banks; Greece’s ATE; and Hypo Real Estate Holding in Germany.

The stress tests were loosely patterned on similar tests carried out in the United States last year, which were praised for their rigor and credited with restoring faith in the American banking system.

Whether these tests accomplish the same for Europe now remains to be seen.

henry.chu@latimes.com