Roubini: EU Stress Tests Criteria Not Realistic

The pan-European stress tests on the banking sector were not tough enough to reflect future worsening conditions for the continent's economy, Nouriel Roubini, economist and chairman of Roubini Global Economics, told CNBC Monday.

Nouriel Roubini
Photo: Oliver Quillia for CNBC
Nouriel Roubini

European stress tests assumed a rise of 6 percent in unemployment, economic contraction of 3 percent on average and a 6 percent hike in market interest rates. Many analysts said the conditions were harsher than what they had anticipated.

"The assumptions made about economic growth, about sovereign risk are not realistic enough," said. Roubini, who was dubbed by the media "Dr. Doom" but prefers to be called "Dr. Realist."

Plus, most of the sovereign risk was held in maturity books and the tests did not allow for a default, he added.

The results of the tests are detailed enough for investors to work out for themselves losses that banks might incur in case of sovereign defaults if they wish, the head of the Committee of European Banking Supervisors Giovanni Carosio told CNBC Friday.

"In some cases yes," Roubini agreed, but he pointed out that while it was relatively easy to look at Spanish banks' exposure to sovereign debt, the same thing cannot be said about German banks.

Besides, certain toxic assets on banks' balance sheets "have not been market down," he said.

Roubini said that stress tests on US banks last year weren't tough enough, but since then, share prices of some big US banks have gained sharply, as the tests have instilled confidence in those stocks.

"I would say for the largest banks I might have been overly pessimistic," Roubini said. But they were propped up with government money and "are now earning a big fat interest margin," he added.

Who's the Least Ugly?

The economic situation is bad on both sides of the Atlantic and advanced economies should expect a few years of below-par growth, he predicted.

"It's been like a beauty contest where the issue is not who's the prettiest, but who's the least ugly," he said about the oscillations in the euro's exchange rate against the dollar.

"I think the surprises are going to be on the negative side (in the US)," Roubini said.

The tailwind from the government's stimulus package for the economy from the first half of this year will turn into headwinds as they begin to expire, he predicted.

"I'm tracking, for the second-quarter growth, of 2 percent," he said. "I think everybody is around 2 percent … that's already below trend of 3 percent."

The advance reading for second-quarter US gross domestic product will be released Friday, and economists surveyed by predict and advance of a 2.5 percent annual rate.

Job losses will continue, protective pressure will increase and losses that banks will have on their loans will be greater in the second half, Roubini said.

Roubini Global Economics' GDP growth prediction for the second half is 1.5 percent, compared with an average consensus of 2.7 percent, he added.

Unemployment is likely to stay at 9 percent for another six or nine months, according to Roubini.

"We're going to have high unemployment rate … that's the new normal for unemployment for the next few years," he said.

Another thing that will affect growth will be the reduction in budget deficits, which is taking place in Europe already and will eventually have to be implemented in the US, Roubini warned.

Taxes will have to increase to cut the deficit, he added.