ECB Unveils Ingenious Strategy to Reduce Banking Stress

Trying to prop up confidence by hook or crook.

Things have been pretty stressful of late in Europe’s banking sector. The introduction of the banking union’s bail-in rule has caused bondholders and stockholders to have second thoughts. The Euro Stoxx Banks Index has plunged 20% year-to-date despite the recent rally, and is down 38% since July.

Many of the worst affected bank stocks are those of so-called systemically important institutions. Deutsche Bank’s shares are down 50% from highs last July, while Spanish behemoth Santander’s shares have plumbed depths not seen since the 1990s. Concerns have also emerged about the ability of big lenders to turn a profit in a negative-interest-rate environment, following disappointing earnings by Societe Generale SA, HSBC Holdings Plc and Standard Chartered Plc.

In recent years, TBTF institutions like HSBC, Santander, Societe Generale and Deutsche have become so hideously big, complex and interconnected that it’s impossible to get an accurate impression of what’s really happening on and off their books. It is supposedly for this reason that the world’s two biggest central banks – the Fed and the ECB – began conducting regular stress tests of the financial sector to gauge just how effectively such banks would withstand a severe deterioration of macroeconomic conditions.

The challenge the ECB’s European Banking Authority faces is finding a way of conducting — or at least appearing to conduct — rigorous stress tests of large European banks without setting off further alarm bells and creating even more stress in the markets?

The solution it’s come up with is quite ingenious

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