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Europe's leap toward honest, healthy banks

On Sunday, Europe's central bank released results of stress tests done on the largest banks, hoping to clear up their hidden debts and restore lending to entrepreneurs. More transparent banking will help keep the world's largest economy from stagnation.

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    Daniele Nouy, chair of the Single Supervisory Mechanism, and Vitor Constancio, Vice-President of the European Central Bank, arrive for an Oct. 26 news conference to announce the results of a stress test that simulated how the finances of large European banks would fare in an economic downturn.
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Three years ago, Europe’s economic crisis was triggered by an act of dishonesty. Greece admitted it had lied about its high government debt. Even more troublesome later were revelations of huge hidden debts in Europe’s private banks – overdue mortgages and bad corporate loans. 

On Sunday, however, a wind of honesty blew through the continent, one that should help bring a needed recovery to the world’s largest economy. The European Central Bank (ECB) released the results of a “stress test” conducted on 130 of the largest banks. The test asked: Could the banks survive another big financial crisis? Do they have enough cash on hand. And exactly how much bad debt is on their books? 

About a fifth of the banks failed the so-called "comprehensive assessment." Most are in Italy, Greece, Slovenia, and Cyprus. About half have made improvements since the test began a year ago. More repair is still needed to establish credibility in financial markets but at least the 17 countries in the single-currency eurozone have set down a basic principle – transparency – for their coming banking union under ECB regulation.

The healing balm of honesty is just one of many steps needed to prevent Europe from slipping into stagnation and becoming a drag on the world economy. Individual countries, especially France and Italy, need to remove the legal barriers and high taxation that prevent job growth for unemployed young people (the jobless rate is more than 40 percent in some countries). Simply making it easier for banks to issue more private loans will not be enough. Nor would new massive spending on roads, rails, or airports. 

Europe needs to become a welcoming place for investors who can generate higher productivity. Very few European companies, for example, are leaders in the world’s digital economy.

“We can produce the easiest credit conditions, but if some young entrepreneur needs nine months or one year before he can get a permit to open a new shop, he suddenly won’t apply for credit,” said Mario Draghi, ECB president, in a recent speech. “And once he opens a new shop, he’s being overburdened by taxation. He certainly sees no advantage or benefit from having this credit.”

Mr. Draghi notes that countries with the highest youth unemployment are also the worst in two other aspects: the difficulty that companies face in hiring new workers and in the weak performance of their education systems. 

The European Union has survived its initial crisis over high government debt. It has now has taken a big step in cleaning up private banks. More fundamental reform must come quickly. 

“Without reform, there can be no recovery,” says the central bank’s Draghi. And any reform must be set firmly on core principles such as honesty.

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