EU aims to shock with tougher bank stress tests

The strength of Europe's banking system is about to be tested against a fictional doomsday scenario that includes a global bond rout and a currency crisis in central and eastern Europe.

The three-year outlook features "the most pertinent threats" to the stability of European Union banks and their potential impact on entire balance sheets, according to a draft European Banking Authority statement.

The authority is due to release the details today in co-ordination with the European Central Bank.

As the ECB prepares to take over supervision of about 130 euro-area lenders from BNP Paribas to National Bank of Greece in November, policymakers have chosen to reflect real-world developments like the tensions over Ukraine in a bid for more credibility in the toughest stress tests to date.

Similar exercises in 2010 and 2011 were criticised for failing to uncover weaknesses at banks that later failed.

"The negative impact of the shocks, which include also stress in the commercial real estate sector, as well as a foreign exchange shock in central and eastern Europe, is substantially global," the draft statement said. "For most advanced economies, including Japan and the US, the scenario results in a negative response of GDP ranging between 5 and 6 per cent in cumulative terms compared to the baseline."