Stress tests criticised after they fail to examine sovereign default

EUROPE’S stress tests were too lenient and are sending analysts down a series of “blind alleys” rather than providing the clarity needed to calm the region’s fraught markets, experts have warned.

The results of the tests, released on Friday, saw just eight out of 90 banks fail to maintain sufficient capital in an “adverse” scenario devised by the European Banking Authority (EBA), although a further 18 only just scraped a pass. All four major UK banks passed, with RBS coming out weakest.

But analysts have said that the scenario tested for by the EBA is a complete red herring.

“A blind man on a foggy day can see that the one thing the market is most concerned with is sovereign default and they have not looked at the range of scenarios we are most interested in,” said Investec’s Gareth Hunt.

He said the tests should have examined three possibilities: a Greek default, a Greek and Irish default, and full peripheral contagion – a Doomsday scenario.

“What you need is clarity – to minimise the number of blind alleys that people have to go down,” he added.

Instead, the EBA has factored in a haircut of just 15 per cent on Greek sovereign bonds, despite a 50 per cent discount factored in by markets.

Worst of all, the tests do not examine the possibility of contagion. The EBA said it “does not take into account any second-order effects”, despite the threat of a market panic.