Large euro zone banks have been underreporting their risky assets by 275bn by using their own models to quantify potential losses, according to the European Central Bank (ECB).
A five-year review by the ECB found that the euro zone’s top banks had undercounted risk-weighted assets for example by underestimating losses in cases where a borrower goes bust.
This lowered the ratio between the banks’ capital and their risky assets by 70 basis points on average between 2018 and 2021.
“Banks are following through to correct deficiencies and fully comply with the requirements,” Reuters reported, citing Andrea Enria, chair of the ECB’s supervisory board.
Since the 2008 financial crisis caused by the banking sector, regulators have been scrutinising internal models used by large banks to calculate risk is on their balance sheet and how much capital they need.
“Further improvement” was also needed in some areas, for example to ensure that the probability of default that banks assume is in line with long-run averages and sufficiently conservative.
The way borrowers are rated also needed “to be amended or adapted”, Enria added.
The ECB’s Targeted Review of Internal Models (TRIM) included 65 large banks across the euro zone. Germany was the most represented country with 14 lenders.