Stress Tests: Turning Around The Euro Economy?

Will stress tests be enough to turn the euro-zone economy around? That's the question in our latest view. Tell us what you think.

by Lubica Schulczova
WBP Online

Frankfurt - European Central Bank (ECB) Vice President Vitor Constancio stated after the stress tests results' release that they "guarantee that going forward the economic recovery will not be hampered by credit supply restrictions".

It is true that regulators, be it the ECB or the European Banking Authority (EBA), have successfully achieved their purpose and forced the banking sector to improve its overall capital strength and stability. From the first reactions it seems that stress tests have definitely lifted confidence in the euro zone banking system. However, the ECB is hoping to achieve much more than restoring confidence and, as a result, encourage increased investment in European banks.

More crucially, the ECB has been dutifully engaged in helping the broader euro zone's troubled economy and, after the stress tests, it now fervently hopes that the results, in tandem with the ECB's stimulus measures, will encourage banks to lend more.

"The ECB itself has frequently stressed confidence that once those banks that pass the stress tests are openly in the clear," writes Howard Archer, chief UK & European Economist at IHS Global Insight, "a significant number will become more prepared to access the cheap liquidity that the ECB is increasingly providing under the stimulative measures announced in June and September, and to lend to the private sector. There has been belief that a number of banks have held off from lending so as to make their balancer sheets look as strong as possible."

The ECB definitely expects banks to better use its second Targeted Long-Term Refinancing Operation (TLTRO) in December, compared to the disappointing take-up in the mid-September.

Impacting broader economy

Banks are perhaps better prepared to lend now that the stress test are over, however, it is far from certain that there will be increased demand for capital from the private sector in euro zone countries. The current euro zone weakness and poor business confidence point to deeper problems than the lack of accessible capital. Moreover, the uncertain outlook amid geopolitical tensions and sanctions against Russia, have contributed much to the problems.

Of course, some companies may now be more willing to borrow from banks as they face less concern that they may be taking a loan from a bank which goes under a year later, reducing the risk that a firm may suddenly be asked by an insolvency administrator to pay back the loan prematurely.

However, with Germany likely less agreeable to further stimulus measures to help a French economy further slipping into the mire with its latest manufacturing and services numbers, and with the Italian economy also facing an extremely difficult period amid political unrest and with overall weakness in the euro zone, there is still much more to do in Europe including tough reforms and political decisions both on the European Union level as well as in individual member countries.

After all, new European Commission President Jean-Claude Juncker has signaled exactly that. He told lawmakers in the European Parliament during the approval process that he would present a €300 billion ($380 billion) investment package to boost jobs and growth by Christmas.

"If the ECB's bank stress tests really do bolster confidence in the euro zone's banking sector, that is a very welcome and positive development. But this will by no means be sufficient in itself to turn around the euro zone's currently poor economic fortunes," Archer Howard continues. "There remains a pressing need for a greater policy focus on growth in the region, underpinned by genuine commitment to structural reform in a number of countries (particularly France and Italy). An easing of global geopolitical tensions and economic uncertainties would also be helpful to business confidence across the euro zone."

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