Regulator Warns EU Financial Stresses Have Worsened

The dangers facing Europe's financial system have continued to worsen, Europe's recently created super-watchdog, the European System Risk Board (ESRB), said on Thursday, as it urged the euro zone to get its new rescue fund up and running.

Getty Images Governor of the Bank of England Mervyn King

The body, designed to give early warnings and one of Europe's flagship responses to the financial crisis, said the trouble in the euro zone bond markets and the lack of confidence in Europe's banks had made the risks facing the region more acute.

"Overall conditions have worsened as a result of the intensification of negative interlinkages between sovereign risks and the uncertainty about the resilience of the financial system, and on account of deteriorating growth prospects," the ESRB said in a statement.

"Dependence on central banks has risen and signs are intensifying that stressed financial conditions are passing through to the real economy."

It added the resilience of the financial system needed to be improved and called for banks to bolster their balance sheets but without slamming the brakes on lending.

"Strict implementation of EBA criteria to avoid a disorderly or excessive deleveraging process could support the supply of credit and the provision of financial services to the real economy," Mervyn King, the ESRB's Vice Chairman said.

"The core Tier 1 capital ratio of 9 percent should mainly be achieved through an increase in capital levels, also by restricting payouts."

He went on to say the problems that have frozen interbank lending markets needed to be overcome and was something the ESRB would look at, and urged the euro zone to finalize agreements agreed earlier this month at a crisis summit in Brussels.

"The swift and coordinated implementation of those decisions is now of utmost importance."

"It is essential that the EFSF (European Financial Stability Facility) be fully equipped and operational."

End Not Nigh

The ESRB is made up of mix of central bankers and financial industry bodies and is designed to take a bird's eye view of Europe's economy flag up any emerging problems for relevant authorities to act on.

Critics argue it has no formal teeth and is therefore likely to prove ineffective. The ESRB argues, however, that its ability to issue public warnings gives it the ability to harness the disciplinary forces of the market.

The ESRB's head Mario Draghi, unexpectedly and without explanation did not turn up to the post-meeting news conference. King, standing in for him, replied to a question about whether there was a danger the euro may not survive with an analogy about profocising doommongers.

"I remember as a student going to the centre of London and seeing on the main shopping street a man wearing a sandwich board and across it was written: The end of the world is nigh. The interesting thing was he was still there 20 years later."

Both King and Enria said it was vital that banks did not achieve their debt reduction targets by slashing lending to firms and consumers.

They also underscored the importance of the measures taken by the European Central Bank and the Bank of England to provide banks with secure and cheap funding. The ECB on Wednesday pumped almost half a trillion euros to banks in its latest bid to bolster the system.

King also said that while the idea of a euro break up was absurd, in general, banks needed to be prepared for all circumstances.

"There was no discussion of that (country leaving the euro) at the ESRB and of course all financial institutions are advised to prepare for a wide range of contingencies. But the responsibility of selecting those is up to them," he said.