Bailed-out banks must face stress tests, EU says (Roundup)

Jul 23, 2009, 12:28 GMT

   Brussels - Banks which have been rescued by the state will have to carry out strict 'stress tests' if the European Union is to approve their restructuring, the EU's executive said Thursday as it set out rules to take banks out of the financial crisis.

   'Banks' return to viability is the best guarantee for stability and their sustained ability to lend to the economy. ... In order to devise strategies for a sustainable future, banks will have to stress test their business,' the European Commission guidelines say.

   Those tests will have to produce an in-depth analysis of each bank's ability to stay afloat financially even if markets take a sudden downturn.

   Banks whose business models look too risky could be forced to change their plans, sell off subsidiaries or close down.

   The tests 'may lead to revisiting the business model of the bank, disclosing and dealing with impaired assets, withdrawing from loss-making activities or even considering absorption by a viable competitor or orderly winding up,' the guidelines say.

   The guidelines, which the Brussels-based commission will use until the end of 2010 to judge whether or not state rescues are legal, come as EU governments which have spent billions on rescuing failed banks are trying to turn them back into profitable businesses.

   'The financial crisis may not be over yet, but we need to start working seriously with member states to restructure European banks. We need to make banks viable again without state support,' EU Competition Commissioner Neelie Kroes said.

   Under the EU's strict competition rules, state aid is only allowed if it does not give the bailed-out company an unfair advantage, and if it means that the company will be able to survive without further help in the future.

   But with dozens of banks across the EU's 27 member states only kept afloat by state lifelines, the commission has been forced to bring in emergency rules in order to stave off financial collapse.

Since the autumn, the commission has approved around 35 national rescue plans and as many individual bail-outs, Philip Lowe, head of the commission's competition department, said.

Under the emergency guidelines, bailed-out banks will be allowed to take up to five years to restructure, instead of the usual two to three years.

Shareholders who would have had to pay half of any bills associated with restructuring under normal rules will be allowed to pay 'substantially less.'

And the EU's long-standing rule that governments can only bail out a company once - the 'one time, last time' principle - will no longer apply automatically, allowing member states to plan further rescues if they can make a convincing case for doing so, Lowe said.

   However, with analysts saying that the current recession is drawing to an end, the EU executive is keen to make sure that its emergency rules do not become a permanent habit of state support for badly-run banks - even if that means that some banks disappear.

'The concept of a whole bank being wound down has not been considered very often, but it is something we believe needs to be tolerated more, because otherwise we are going to get into a permanent situation of implicit public support for any bank, and this can only diminish the incentives for real competition,' Lowe said.

   The commission's standard rules on business bail-outs are to come back into force on January 1, 2011.