MercoPress. South Atlantic News Agency

German banks fear tough EU recapitalization standards could backfire

Bankers sent a letter to Finance Minister Wolfgang Schaeuble

Germany's banks have said that they should not be pushed to increase their financial cushions beyond existing law under the European Union's effort to shore up the financial system against the debt crisis.

The banks say they fear EU regulators will impose excessively tough standards in their effort to crisis-proof the continent's financial system.

“We are of the view that an assessment of the ability of European banks to withstand risk should be conducted on the basis of the current capital definition,” the heads of five German banking associations said in a letter dated Wednesday and sent to Finance Minister Wolfgang Schaeuble. It was made public Thursday.

The European Banking Agency regulator is reviewing bank finances ahead of an expected push to recapitalize banks. That would help ensure they can survive losses if Greece defaults on its government bonds. Many banks hold those and other government bonds that could be affected by a default.

Details of the recapitalization program are being worked out ahead of a European summit Oct. 23 and a Group of 20 meeting of rich and developing countries in early November.

Increasing capital can be painful because shareholders can see their holdings diluted and banks may have to reduce their amount of risky but potentially profitable business, or keep back earnings that could otherwise be paid as dividends or bonuses.

Euro-zone officials fear bank losses could choke off credit to the wider economy and cause another recession. The question is pressing because Greece may have to impose losses on bondholders beyond the 21% agreed in a July deal aimed at cutting the country's debt load to something it could pay. That deal is being regarded now as not going far enough to put Greece back on its feet.

Euro zone officials say they will measure whether the banks can retain at least 9% in high-quality reserves measured against their investments in bonds and other risky assets, even after losses on their holdings of government bonds.

That 9% standard would match that of a new set of rules called Basel III, which countries do not have to implement until 2019. It would go well beyond an earlier round of stress test results from July when banks were asked to show they could survive an economic downturn with at least 5% high-quality reserves.

Eight of 90 banks flunked and 16 barely passed, but national regulators in Germany and Spain resisted efforts to make their banks add more capital and questioned the benchmarks used in the test.

The banks warn in a letter that going beyond current legal capital requirements risks making some banks appear less stable than they really are.

“The stress tests from the EBA in the current, tense situation should not overshoot and take as their basis stress scenarios that exaggerate the risks in the end,” the letter said, warning of “creating self-fulfilling prophecies that deepen the crisis.”

European officials say banks will need to strengthen their finances by keeping back more earnings, cutting bonuses and salaries, and if necessary asking private investors for more capital. Banks that cannot access private capital would be pushed by national regulators to take government money.