Eurozone Banks Face £42bn Black Hole and German Lenders Expected to Fail

A capital black hole of as much as £42bn will be revealed in the eurozone's banks by the European Banking Authority's stress testing regime, according to an analyst who advises the British government on banking.

Davide Serra, the chief executive of firm Algebris, said the EBA's stress tests would uncover new problems in banks across the region, and likely show banking to be the Achilles' heel of growth stalwart Germany.

Speaking to the Telegraph, Serra claimed that Germany was among the countries that had "the worst banking systems in the world" and that three or four regional Landesbanken were likely to be shut down.

He said: "The country where I expect bad news is the country which has not been scrutinised and has been deemed to be the strongest. I expect more bad news coming out of Germany.

"The strongest German Panzer was unbeatable, but there is only one problem – they have one of the worst banking systems in the world. If you are a bright engineer in Germany you work for BMW or Mercedes, you do not become a banker."

"I expect at least three or four [regional] Landesbanken to be put in run-off mode. The German regulator, BaFin, is one of the weakest. It has always been lobbied by local politicians."

Some analysts believe that a number of these German banks are sitting on badly performing property loans which have never been properly accounted for and these could be in the Landesbanken sector.

"I think the ECB exercise will actually allow them to do what is right," Serra said of the German regulators.

"That is one of the reasons why the Bundesbank has been very forceful – requiring auditors to be in the process. Why? They need a legal piece of paper so they can go to the local Landesbanken and say: 'Sorry, game over'," he added.

Probing Eurozone Banks

The EBA was called upon by the European Central Bank to develop standards which would help policymakers in Frankfurt and Brussels spot risks in eurozone banks.

Previous stress tests by the European authorities cleared eurozone banks. But these same banks later experienced great difficulty during the sovereign debt crisis that started in 2010.

Other banks in Portugal and Greece were likely to need more capital this time around according to Serra.

Serra said although previous stress tests had failed to pick up significant problems at banks and the ECB had learned a hard lesson and that was why they were so important to get right in the near future:

"The ECB has hired about 900 people to perform the exercise. These people's job will be not to fail. If they do, their job is at risk. They will have a strong incentive."

The stress tests are the first step towards the ECB becoming the supervisor of all lenders in the eurozone, under a new department called the Single Supervisory Mechanism (SSM).

The French bank regulator Danièle Nouy heads the SSM and has been charged with monitoring the activities of approximately 6000 lenders.

The role comes into force in November 2014.

UK Banks and Stress Tests

Meanwhile, Serra praised the UK financial sector for being more robust and transparent than many countries in the European Union.

Although the Royal Bank of Scotland, Lloyds Banking Group, Barclays and HSBC will be included in the stress tests, Serra said he did not expect the stress tests to put British banks in a bad light:

"I don't expect more bad news to come out of the UK. Britain is the country that lost the most – we almost blew up the country so they had to fix it.

"The change in leadership [at the Bank of England] with Mark Carney is massively welcomed. The UK is now basically clean. We had our own Fukushima and you had to deal with it swiftly."