Enria delivered a very interesting speech at the National Bank of Romania last week, in which he argued that stress tests were in need of a bit of a redesign in Europe.
In particular, the soon-to-be-head of the Single Supervisory Mechanism bemoaned the “decoupling” effect of these exercises, whereby the results tend to be published without any clarity on what they might mean for banks in terms of supervisory actions.
One way of tackling this problem, Enria said, would be to align the publication of stress test results with the end of the annual supervisory review and evaluation process (SREP).
Supervisors would then have a one-stop shop for releasing information about the resilience of the banking sector as well as what they are planning to do to make sure that the proper safeguards are being put into place in Europe.
“This new approach is feasible only if supervisors accept to publish Pillar 2 Requirements and Pillar 2 Guidance,” Enria said. “Otherwise the loss of information would be a step back with respect to where we stand today.”
He continued: “Full transparency would allow investors to get all the relevant information at the same time, instead of getting stress test results first and only later (if at all) the outcome of the SREP.”
Enria should be forgiven if his arguments around disclosure seem obvious to the point of being condescending.
Pillar 2 Guidance (P2G) was introduced by the European Central Bank in 2016 as a means of clarifying when banks should face any consequences for being short of capital.
The idea was that institutions would only be subject to restrictions on distributions following a breach of Pillar 2 Requirements (P2R), whereas P2G would give supervisors leeway to introduce “institution-specific measures” aimed at restoring capital.
But the word from the top is that there is no need for banks to disclose their P2G levels to the market.
This is poor practice, and Enria was right to try to address the opaqueness around supervisory demands in his speech last week.
As GlobalCapital has previously argued, P2G is a very important number. While it may not be legally binding, the ECB does expect banks under its supervision to meet the target.
Most investors are not fools. They are well aware that banks have these capital demands lurking somewhere in the dark.
Keeping P2G a secret from the industry is therefore folly. Rather than giving supervisors freedom to resolve problems in confidence, it simply encourages funds to take a stab a guessing where different banks stand relative to their capital demands.
The sooner Europe engages with Enria’s arguments around transparency on SREP, the better.