Europe's big banks will be forced to find €108bn ($150bn) of fresh capital over the next six to nine months under a deal to strengthen the banking system agreed by European Union finance ministers.
After ten hours of gruelling talks in Brussels, ministers from all 27 EU member states endorsed an estimate of the banking sector's capital shortfall and made tentative steps towards agreeing on the state backstops to help fill it.
According to two people involved with the negotiations, the European Banking Authority's final emergency stress test identified a total of €108bn to be raised by Europe's banks -- a significantly higher figure than its original estimate presented earlier this week.
This would allow banks to meet a 9 per cent threshold for their core tier one capital ratios -- a measure of financial strength that goes beyond current requirements -- after marking down to market values their sovereign bond holdings of the eurozone's peripheral states.
The final terms of the recapitalisation will need to be approved at a summit of EU leaders on Sunday. While the size of the capital shortfall is broadly agreed, significant differences remain over increasing the firepower of the EFSF, the eurozone's €440bn rescue fund, which some states would borrow from for the recapitalisation.
These unresolved questions mean a further meeting of all 27 member states -- either at the level of finance ministers or heads of government -- will still be held next week, likely before a gathering of eurozone leaders on Wednesday.
Although the basic assumptions in the test remain largely unchanged, fresh data from national supervisors around Europe pushed up the estimate of the shortfall from the €80bn figure calculated by the EBA earlier this week.
Diplomats said the deal proved far more difficult than expected because Italy, Portugal and Spain resisted signing up to raising the capital bar without more certainty about the state backstops in place for any banks unable to raise the capital themselves.
The deal is a victory for those countries that resisted calls for the tests to be watered down, either through reducing capital demands or changing the method for writing down sovereign debt.
Even so, the final figure falls well short of some market estimates of the necessary recapitalisation. A recent International Monetary Fund report identified a €200bn hole in banks' balance sheets stemming from sovereign debt writedowns, while other analysts have put the deficit as high as €275bn.
Under the plan, national supervisors will be told to ensure that banks do not meet the new capital target by shrinking their operations and cutting back on lending to the real economy.
Speaking after the talks had ended, Angela Merkel, German chancellor, said: 'We have to take far-reaching decisions. These have to be prepared properly, I believe that the finance ministers made progress, so that we can achieve our ambitious targets by Wednesday."
George Osborne, UK chancellor, said there had been "real progress" made in the meeting. "Britain will keep up pressure in the next few days to a comprehensive package to resolve the European crisis and to make sure that we get jobs and growth," he said. No UK banks will be required to raise fresh capital under the plan.
Anders Borg, Swedish finance minister, said: "The first solution (for those banks requiring extra capital) is withholding dividends and tapping profits and obviously there will be a responsibility for national governments."
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