European Banks Pass Stress Tests, Demonstrating Economic Resilience

The latest stress tests conducted by the European Banking Authority (EBA) indicate that banks across the European Union are well-equipped to handle potential economic shocks stemming from geopolitical and trade tensions. This assessment involved testing the resilience of 64 banks, including 51 located in the euro zone, against a hypothetical prolonged recession affecting the EU.

The EBA’s findings revealed that none of the banks tested would breach their core capital requirements, with only one bank at risk of exceeding its leverage threshold. Among those examined were major institutions such as AIB, Bank of Ireland, Barclays Bank Ireland, Citibank Holdings Ireland, and Bank of America Europe DAC.

Resilience Amid Economic Uncertainty

Domhnall Cullinan, Director of Banking & Payments Supervision at the Central Bank of Ireland, remarked on the results, stating, “On balance, the scenario in use for the EU area is broadly aligned with the 2023 exercise but the impact of the stress test is milder than the results from that exercise.” He attributed this to banks entering the exercise with stronger profitability and stable asset quality.

Despite ongoing uncertainties, the EBA highlighted the resilience built up by banks over recent years. This resilience is evident in their capacity to absorb impacts from adverse economic scenarios. Cullinan emphasized the necessity for ongoing development of both financial and non-financial resilience among banks.

The Central Bank of Ireland clarified that the stress test does not operate as a pass or fail exercise, without specific thresholds for success or failure. Instead, the results will inform the 2025 Supervisory Review and Evaluation Process, which will involve collaborative assessments from the European Central Bank and the Central Bank of Ireland.

Key Findings from the Stress Test

The EBA concluded that the EU banking system’s ability to withstand a “severe but plausible” macroeconomic scenario reflects significant resilience. Nevertheless, the authority urged banks to maintain adequate capital levels to ensure ongoing stability.

The introduction of stress tests by European and American banking authorities followed the 2008 global financial crisis, which resulted in substantial bailouts, with Irish taxpayers among those affected. The EBA noted that some elements of the adverse economic scenario considered during the tests have already begun to manifest, particularly citing tariffs imposed during Donald Trump‘s presidency and escalating conflicts in the Middle East.

The stress test involved lenders that account for three-quarters of the total assets of EU banks. It simulated potential losses by evaluating their performance over a three-year timeframe, factoring in both baseline and adverse scenarios. Under adverse conditions, deteriorating geopolitical relations and protectionist trade measures could lead to an increase in energy and commodity prices, disrupt supply chains, and suppress consumption and investment. This scenario anticipates a contraction of 6.3 percent in EU economic output between 2025 and 2027.

On aggregate, the main capital ratio of the 64 banks tested decreased by 3.7 percentage points to 12.1 percent under the adverse scenario, a less severe decline compared to the 4.59 percentage-point drop recorded in the previous stress test two years ago. Notably, many of Europe’s largest banks experienced a smaller reduction in their common equity Tier 1 ratios than in previous evaluations. For instance, Deutsche Bank saw its ratio decline by 3.78 percentage points, down from 5.28, while BNP Paribas experienced a reduction of 2.79 percentage points, a decrease from 3.92.

This latest assessment underscores the improved stability of the European banking sector, reinforcing the importance of preparedness in the face of potential economic challenges.