The European Union authorities undertook a first round of stress-tests on European financial institutions in the summer of 2010 to assess the resilience of the EU banking system to hypothetical stress events under certain restrictive conditions. The results of these initial tests were widely criticised as lacking credibility. Indeed, the Irish banks passed the tests only to go bankrupt a few months later. The European Banking Authority (the “EBA”) launched a new round of stress tests in March 2011 with the aim of restoring credibility to the process and confidence in the EU banking sector.
The Economic and Financial Affairs Council (“ECOFIN”) on 17 May 2011 set out guiding principles on backstop measures to support financial institutions identified as vulnerable by the 2011 EU-wide stress tests. It agreed that all member states would have in place credible backstop mechanisms at the time of the publication of the results, expected in June 2011, and set deadlines for addressing any vulnerability identified by the stress tests, with a stated preference for private sector solutions.
Depending on each institution and country, backstop mechanisms may cover a broad range of measures, including both private and public elements, such as for example, external audits, additional reporting requirements, reinforced monitoring, plans for capital conservation, capital increases, risk mitigating actions, liability management exercises, restructuring, sale of assets, transfers of assets to asset management companies, splitting of core and non-core activities and, where appropriate, merging of institutions to more viable units, orderly resolution, with the aim to accelerate the strengthening of the banking sector while preserving financial stability.
The EBA will publish the results of the most recent stress tests later this month.