Italy's 'zombie banks' could trigger the next Euro crisis

For many years Italian banks have not written off loans made to insolvent borrowers.

Monte dei Paschi said it had secured underwriters to back its plan, which calls for the sale of 9.2 billion euros ($10.3 billion) in bad loans and a 5 billion-euro capital increase.

You can see a full summary of the European Banking Authority's findings here.

Italian lender Monte dei Paschi di Siena unveiled a plan on Friday to prevent its centuries-old business from being wound up by regulators, a privately funded overhaul that Rome hopes will help stabilise the country's entire banking sector. The EBA stress test makes clear that the European Union banking sector as a whole is able to withstand a severe economic downturn like the one that EBA simulated.

EBA Chairman Andrea Enria said: "Whilst we recognise the extensive capital raising done so far, this is not a clean bill of health. Over recent years we have materially strengthened our CET1 ratio, substantially reduced our balance sheet and leverage, and continued to de-risk our asset exposures", said Ewen Stevenson, chief financial officer of RBS.

They first came to prominence after the financial crash in 2008 when so many banks had to be bailed out by government, or public, money and it became apparent that banks weren't conducting their own rigorous balance sheet analysis.

"The immediate risk around the stress test is that the capital market's perception of the group - a distressed equity and credit valuation - is enough to warrant some form of intervention", Barclays wrote in a note to clients earlier this week.

A man walks in front of the Monte dei Paschi bank in Siena central Italy
A man walks in front of the Monte dei Paschi bank in Siena central Italy

Then there is liquidity risk which arises when a bank tries to sell on a loan to prevent or minimise a loss. "There remains work to do, which supervisors will undertake".

"Based on these results European banks do have deeper loss absorbing capacity than previously, but concerns clearly remain around profitability and the appetite of equity investors to invest in bank stocks", said Steven Hall of KPMG. In addition to having company-specific ramifications for European Union banks, they will also be extrapolated as an indicator of the health of the overall European Union banking sector.

Deutsche Bank has boosted its capital by nearly 22 billion euros since the financial crisis and it now holds about four times as much capital against a risky asset than it did 10 years ago.

More than three-quarters of the 51 lenders looked at maintained a CET1 ratio of more than 8pc in the tests.

The EBA published stress test results in 2011 and 2014 to measure the potential effect of an economic shock - but this time it will not say whether the institution concerned has passed or failed.

Publication of the regulatory stress-testing of BMPS and other troubled Italian banks should reveal whether Europe has another bailout emergency to deal with.

  • Wendy Palmer