February 6, 2019 / 12:58 PM / 8 months ago

ECB simulations will tell banks if their days are numbered

The skyline with its financial district and the headquarters of the European Central Bank (ECB) are photographed in the early evening in Frankfurt, Germany, December 4, 2018. REUTERS/Kai Pfaffenbach

FRANKFURT (Reuters) - The European Central Bank will tell euro zone banks how many days they could last before going bust during a run on their cash, under a new stress test introduced on Wednesday.

Over the next four months, regulators at the ECB’s Single Supervisory Mechanism (SSM) will simulate “adverse and extreme hypothetical shocks”, such as people and companies taking out their deposits, at around 100 banks.

The test, the results of which may feed into how much cash and capital each bank is required to hold, is a response to bank runs hitting Spain’s Banco Popular and other euro zone banks in recent years.

“The exercise will focus on banks’ expected short-term cash flows to calculate the ‘survival period’, which is the number of days that a bank can continue to operate using available cash and collateral with no access to funding markets,” the ECB said.

Under the test’s “extreme shock”, a bank is hit by a major run on deposits, a freeze in wholesale funding, a three-notch downgrade to its credit rating and pronounced withdrawals in committed credit lines, all in the course of six months.

The test draws on the ECB’s experience as the euro zone’s top banking supervisor since 2014. That shows banks find it hard to cut back lending fast enough in response to cash crises, which normally last four to five months, the ECB said.

The results, which will be published on aggregate in the second half of the year, “may lead to additional liquidity requirements” and are designed to lay bare weak spots in how banks manage their cash.

The exercise will be based on bank data as of the end of last year, which reflects ample liquidity supplied by the ECB itself. It won’t take into account possible changes to its monetary policy.

It will also focus on the situation of individual banks and won’t simulate situations when banking as a whole is under pressure from a macroeconomic or geopolitical crisis.

Reporting By Francesco Canepa, editing by Larry King

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