Deep in the European Central Bank’s Frankfurt headquarters, there’s a room sealed off from the world.
In the Dark Room, as it’s referred to internally, staffers are combing through almost 39,000 points of data on the euro area’s 130 biggest banks before the results of the ECB’s Comprehensive Assessment are released on Oct. 26. The security precautions -- no Internet connection or external phone lines -- being taken are part of a plan to ensure that “Disclosure Day” arrives without leaks, lawsuits or glitches.
When it starts to supervise euro-zone banks on Nov. 4, the ECB will embark on its biggest new mission since the introduction of the single currency, one that also poses the biggest threat to its reputation. The challenge between now and then is to publish the results of its year-long bank audit and convince the world that it’s tougher, fairer and more credible than any test that came before.
“The ECB understands that they’ve only got one chance at getting this right, and if they don’t their reputation will be severely damaged,” said Christian Thun, a Frankfurt-based senior director at Moody’s Analytics, which provides consultancy and software services to banks. “It has been a massive undertaking, but I think they will achieve their aim of restoring confidence in the banking system.”
Collating Data
The Comprehensive Assessment started in October 2013 as a way to ensure that when the ECB became the euro zone’s single supervisor it would know exactly what it was dealing with. Since then, at least 25 million data points have been collected on credit files, collateral and provisioning. This knowledge of asset quality has been fed into a stress test, an innovation the ECB says makes this better than previous tests run by the European Banking Authority.
Banks will be required to show that their ratio of capital to risk-weighted assets can remain above 8 percent under current circumstances, and above 5.5 percent over three years after a hypothetical recession and bond-market collapse.
To hold the line that everything is going according to plan under the pressure of conducting an unprecedented biopsy on 130 banking groups across 19 countries in 12 months, the ECB has distributed a troubleshooting manual to officials outside Frankfurt.
ECB President Mario Draghi said at the outset that banks “need to fail” to prove the exam’s credibility. A pressing worry now is that the exam won’t reveal big enough capital shortfalls to prove its rigor, according to the document, dated Oct. 6 and obtained by Bloomberg News.
‘Strong Methodology’
“Results may be seen as not credible if below market expectations,” the document states. Officials are advised to stress that “a strong methodology underpins the exercise” and that capital-building measures have “already been pre-emptively taken by banks.”
“We are disclosing the results of the Comprehensive Assessment on Oct. 26,” an ECB spokesman said when asked to comment on the document. “This is an unprecedented operation in terms of scale and we are planning accordingly.”
Estimates of the system’s new capital needs have varied wildly, from zero to as much as 767 billion euros ($973 billion). Draghi said on Oct. 9 that since the summer of 2013, banks the ECB will supervise directly had “strengthened their balance sheets by almost 203 billion euros,” with 59.8 billion euros of that coming from gross equity issuance. The rest consists of contingent convertible bond issuance, retained earnings, asset sales, one-off items, additional provisioning and “about 50 billion euros of other measures,” he said.
Bank Comment
At the same time, the ECB is preparing for the contingency that banks cry foul when they receive the final results of the assessment and prohibit publication or sue. In 2011, German regional lender Landesbank Hessen-Thueringen, known as Helaba, prevented the publication of its results in an EBA stress test.
“In some countries banks are entitled to withhold consent; however credibility of the exercise and the benefit to banks is in the high level of transparency which ultimately benefits participating institutions,” the document states. “The ECB has made every effort to ensure the accuracy of the process and provide opportunities for the banks to comment.”
While the ECB looks set to deliver the results of its health check on time, there have been hiccups along the way. A planned risk-profiling exercise had to be jettisoned when it became clear it wouldn’t be ready in time. Templates for data had to be adjusted after banks protested at their complexity. Some banks criticized the stress-test scenarios for being inconsistent. Last month, a confidentiality agreement had to be redrafted after errors provoked a revolt among some lenders.
‘Credible’ Test
Those glitches haven’t tarnished the image of the whole process, according to Martin Hellmich, professor of risk management and regulation at the Frankfurt School of Finance & Management.
“Even though the time frame has been extremely limited, the longer I have observed the process, the better the impression I have of it is,” he said. “The central bank wants to make very clear that its stress test is credible; that’s extremely important for them.”
In the Dark Room, officials are going over the final numbers after a process of consultation with lenders, known as a Supervisory Dialogue, concluded last week. Banks were given a rough idea of their outcomes, without the ECB providing enough detail to make any shareholder disclosures necessary. So far, the ECB has succeeded in avoiding any of the premature leaks of results that it considers so damaging.
Final Disclosure
According to the Oct. 6 document, banks will receive their detailed results at noon on Thursday, Oct. 23, and have 48 hours to return their signed consent forms. The ECB’s Governing Council, its highest decision-making body, will then swing into action to approve the final disclosure. Central bankers, after 16 years of the ECB’s life as a purely monetary institution, are nervous about the threats to their credibility that the messy business of bank supervision can bring.
“We are all aware that taking up responsibility for supervision is a very risky affair,” Governing Council member Ewald Nowotny said on Oct. 9. “I would say that no central banker with a certain survival instinct would do so.”
Draghi’s ‘Whatever It Takes’ Plan Faces Trial at EU Court
European Central Bank President Mario Draghi’s pledge to do “whatever it takes” with a bond-buying plan to save the euro-area goes on trial before the European Union’s top judges today.
The Court of Justice, the bloc’s highest court, will weigh whether Draghi’s ECB overstepped its powers in 2012 with the mechanism to buy the debt of stressed countries if needed. While Germany’s own top court earlier this year expressed doubts about the plan’s legality, the EU tribunal’s 15-judge panel is unlikely to overturn it, according to legal scholars.
“A ruling that would say the ECB’s Outright Monetary Transactions mechanism isn’t in line with the EU Treaty would be the end of the euro,” said Pierre-Henri Conac, a professor of financial-markets law at the University of Luxembourg. “Politically, they cannot do that. There is no real suspense about the way the ruling will go, but there will be suspense about the actual content of the decision.”
The Frankfurt-based ECB announced the details of its unprecedented bond-purchase plan in September 2012 as bets multiplied that the euro area would break apart and after Draghi’s promise to do whatever was needed to save the currency. The calming of financial markets that the still-untapped OMT program produced helped the euro area emerge from its longest-ever recession in the first half of last year.
From the statements, the ECB expects wide-ranging support for its argument that it should be allowed to determine independently how to reach its goal of price stability, a spokesman for the ECB said.
Court Coup
Germany’s Federal Constitutional Court, which is handling a series of challenges to the legality of the OMT program, sought the EU tribunal’s guidance in February. “It’s questionable whether the Federal Constitutional Court can score the coup of dictating the ECJ how to rule,” Christoph Ohler, professor of law at Jena University. “I don’t think the constitutional court will get all it wants in the end. But I also don’t think the ECB will get all it wants.”
While the OMT program averted fears of a breakup of the currency region, it did little to help the 18-nation economy out of its malaise. Two years after its announcement, the ECB is gearing up to buy asset-backed securities and covered bonds to funnel credit to companies and households and fuel inflation running at a fraction of its target of just below 2 percent.
Draghi has held out the prospect of stepping up stimulus to include sovereign-bond purchases, even though the current plan already sparked an outcry among academics and representatives of all major political parties in Germany and drew opposition from Bundesbank President Jens Weidmann and two other council members.
Quantitative Easing
A rising number of economists in Bloomberg’s monthly survey predict the ECB will embark on the type of quantitative easing other central banks have enacted as the economic outlook deteriorates.
The German court said in its February judgment that the OMT may violate EU rules because it amounts to economic policy that is outside the ECB’s mandate. Judges there said the plan may also be seen as monetary financing of governments, which the EU treaties ban.
The OMT program could pass the test if it were limited and placed under certain conditions, like banning debt cuts and unlimited purchases bonds of selected member states, the German court said.
“The real issue will be to see to what extent the EU court will pick up on the German court’s alternative interpretation,” Conac said by phone. “The decision will most likely validate the OMT and at the same time take into account as much as possible” the compromise proposed. The EU court usually takes about 16 months to rule on cases once they have been referred by national judges.The German top court in 2011 threw out cases against the bailout packages for Greece and the country’s participation in the European Financial Stability Facility, the predecessor of the ESM.
The EU court case is: C-62/14, Peter Gauweiler and Others.
source: Bloomberg
In the Dark Room, as it’s referred to internally, staffers are combing through almost 39,000 points of data on the euro area’s 130 biggest banks before the results of the ECB’s Comprehensive Assessment are released on Oct. 26. The security precautions -- no Internet connection or external phone lines -- being taken are part of a plan to ensure that “Disclosure Day” arrives without leaks, lawsuits or glitches.
When it starts to supervise euro-zone banks on Nov. 4, the ECB will embark on its biggest new mission since the introduction of the single currency, one that also poses the biggest threat to its reputation. The challenge between now and then is to publish the results of its year-long bank audit and convince the world that it’s tougher, fairer and more credible than any test that came before.
“The ECB understands that they’ve only got one chance at getting this right, and if they don’t their reputation will be severely damaged,” said Christian Thun, a Frankfurt-based senior director at Moody’s Analytics, which provides consultancy and software services to banks. “It has been a massive undertaking, but I think they will achieve their aim of restoring confidence in the banking system.”
Collating Data
The Comprehensive Assessment started in October 2013 as a way to ensure that when the ECB became the euro zone’s single supervisor it would know exactly what it was dealing with. Since then, at least 25 million data points have been collected on credit files, collateral and provisioning. This knowledge of asset quality has been fed into a stress test, an innovation the ECB says makes this better than previous tests run by the European Banking Authority.
Banks will be required to show that their ratio of capital to risk-weighted assets can remain above 8 percent under current circumstances, and above 5.5 percent over three years after a hypothetical recession and bond-market collapse.
To hold the line that everything is going according to plan under the pressure of conducting an unprecedented biopsy on 130 banking groups across 19 countries in 12 months, the ECB has distributed a troubleshooting manual to officials outside Frankfurt.
ECB President Mario Draghi said at the outset that banks “need to fail” to prove the exam’s credibility. A pressing worry now is that the exam won’t reveal big enough capital shortfalls to prove its rigor, according to the document, dated Oct. 6 and obtained by Bloomberg News.
‘Strong Methodology’
“Results may be seen as not credible if below market expectations,” the document states. Officials are advised to stress that “a strong methodology underpins the exercise” and that capital-building measures have “already been pre-emptively taken by banks.”
“We are disclosing the results of the Comprehensive Assessment on Oct. 26,” an ECB spokesman said when asked to comment on the document. “This is an unprecedented operation in terms of scale and we are planning accordingly.”
Estimates of the system’s new capital needs have varied wildly, from zero to as much as 767 billion euros ($973 billion). Draghi said on Oct. 9 that since the summer of 2013, banks the ECB will supervise directly had “strengthened their balance sheets by almost 203 billion euros,” with 59.8 billion euros of that coming from gross equity issuance. The rest consists of contingent convertible bond issuance, retained earnings, asset sales, one-off items, additional provisioning and “about 50 billion euros of other measures,” he said.
Bank Comment
At the same time, the ECB is preparing for the contingency that banks cry foul when they receive the final results of the assessment and prohibit publication or sue. In 2011, German regional lender Landesbank Hessen-Thueringen, known as Helaba, prevented the publication of its results in an EBA stress test.
“In some countries banks are entitled to withhold consent; however credibility of the exercise and the benefit to banks is in the high level of transparency which ultimately benefits participating institutions,” the document states. “The ECB has made every effort to ensure the accuracy of the process and provide opportunities for the banks to comment.”
While the ECB looks set to deliver the results of its health check on time, there have been hiccups along the way. A planned risk-profiling exercise had to be jettisoned when it became clear it wouldn’t be ready in time. Templates for data had to be adjusted after banks protested at their complexity. Some banks criticized the stress-test scenarios for being inconsistent. Last month, a confidentiality agreement had to be redrafted after errors provoked a revolt among some lenders.
‘Credible’ Test
Those glitches haven’t tarnished the image of the whole process, according to Martin Hellmich, professor of risk management and regulation at the Frankfurt School of Finance & Management.
“Even though the time frame has been extremely limited, the longer I have observed the process, the better the impression I have of it is,” he said. “The central bank wants to make very clear that its stress test is credible; that’s extremely important for them.”
In the Dark Room, officials are going over the final numbers after a process of consultation with lenders, known as a Supervisory Dialogue, concluded last week. Banks were given a rough idea of their outcomes, without the ECB providing enough detail to make any shareholder disclosures necessary. So far, the ECB has succeeded in avoiding any of the premature leaks of results that it considers so damaging.
Final Disclosure
According to the Oct. 6 document, banks will receive their detailed results at noon on Thursday, Oct. 23, and have 48 hours to return their signed consent forms. The ECB’s Governing Council, its highest decision-making body, will then swing into action to approve the final disclosure. Central bankers, after 16 years of the ECB’s life as a purely monetary institution, are nervous about the threats to their credibility that the messy business of bank supervision can bring.
“We are all aware that taking up responsibility for supervision is a very risky affair,” Governing Council member Ewald Nowotny said on Oct. 9. “I would say that no central banker with a certain survival instinct would do so.”
Draghi’s ‘Whatever It Takes’ Plan Faces Trial at EU Court
European Central Bank President Mario Draghi’s pledge to do “whatever it takes” with a bond-buying plan to save the euro-area goes on trial before the European Union’s top judges today.
The Court of Justice, the bloc’s highest court, will weigh whether Draghi’s ECB overstepped its powers in 2012 with the mechanism to buy the debt of stressed countries if needed. While Germany’s own top court earlier this year expressed doubts about the plan’s legality, the EU tribunal’s 15-judge panel is unlikely to overturn it, according to legal scholars.
“A ruling that would say the ECB’s Outright Monetary Transactions mechanism isn’t in line with the EU Treaty would be the end of the euro,” said Pierre-Henri Conac, a professor of financial-markets law at the University of Luxembourg. “Politically, they cannot do that. There is no real suspense about the way the ruling will go, but there will be suspense about the actual content of the decision.”
The Frankfurt-based ECB announced the details of its unprecedented bond-purchase plan in September 2012 as bets multiplied that the euro area would break apart and after Draghi’s promise to do whatever was needed to save the currency. The calming of financial markets that the still-untapped OMT program produced helped the euro area emerge from its longest-ever recession in the first half of last year.
From the statements, the ECB expects wide-ranging support for its argument that it should be allowed to determine independently how to reach its goal of price stability, a spokesman for the ECB said.
Court Coup
Germany’s Federal Constitutional Court, which is handling a series of challenges to the legality of the OMT program, sought the EU tribunal’s guidance in February. “It’s questionable whether the Federal Constitutional Court can score the coup of dictating the ECJ how to rule,” Christoph Ohler, professor of law at Jena University. “I don’t think the constitutional court will get all it wants in the end. But I also don’t think the ECB will get all it wants.”
While the OMT program averted fears of a breakup of the currency region, it did little to help the 18-nation economy out of its malaise. Two years after its announcement, the ECB is gearing up to buy asset-backed securities and covered bonds to funnel credit to companies and households and fuel inflation running at a fraction of its target of just below 2 percent.
Draghi has held out the prospect of stepping up stimulus to include sovereign-bond purchases, even though the current plan already sparked an outcry among academics and representatives of all major political parties in Germany and drew opposition from Bundesbank President Jens Weidmann and two other council members.
Quantitative Easing
A rising number of economists in Bloomberg’s monthly survey predict the ECB will embark on the type of quantitative easing other central banks have enacted as the economic outlook deteriorates.
The German court said in its February judgment that the OMT may violate EU rules because it amounts to economic policy that is outside the ECB’s mandate. Judges there said the plan may also be seen as monetary financing of governments, which the EU treaties ban.
The OMT program could pass the test if it were limited and placed under certain conditions, like banning debt cuts and unlimited purchases bonds of selected member states, the German court said.
“The real issue will be to see to what extent the EU court will pick up on the German court’s alternative interpretation,” Conac said by phone. “The decision will most likely validate the OMT and at the same time take into account as much as possible” the compromise proposed. The EU court usually takes about 16 months to rule on cases once they have been referred by national judges.The German top court in 2011 threw out cases against the bailout packages for Greece and the country’s participation in the European Financial Stability Facility, the predecessor of the ESM.
The EU court case is: C-62/14, Peter Gauweiler and Others.
source: Bloomberg