EU banks hit with harsher stress tests

Europe's biggest banks must fully disclose their exposure to sovereign debts, as part of a new round of stricter stress tests.

However, banks will not have to consider the impact of a formal default by a European government, the BBC reports, despite this being a key criticism of previous tests that failed to anticipate the collapse of Irish banks last year.

In other respects, the latest tests will be much stricter, according to the European Banking Authority (EBA). They will run for the next three months, with the results published in June this year.

Banks will be "expected to disclose their exposures to sovereigns broken down by accounting portfolios, maturities and countries," said the EBA.

The disclosure means any market analyst will be able to assess the ability of the banks being assessed to withstand an EU government default.

Banks will also have to publish their own "sovereign shock" scenario, as was the case in the previous round held in 2010.

The scenario will involve cutting the market value of the bonds of countries such as Greece, Portugal and Spain by much more than the lows seen late last year.

However, by excluding a formal default from its analysis, it means that banks will not need to write down the value of the government bonds they hold for the long term.

In the "adverse scenario" of the tests, the current growth forecasts for the EU will be lowered by four percentage points, to 0.4% in 2011 and zero growth in 2012.

That compares with only a three percentage-point growth shock applied in the previous tests.

The new test will also apply bigger stresses of unemployment levels and housing prices across the EU.

In addition, there will be a common and more restrictive definition of "core tier one capital" or the cushion banks to maintain to absorb losses on their loans and investments.