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Banks in Denmark may face a US$24b capital shortfall

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Stress tests published by the Danish central bank on Wednesday show that lenders may need to issue as much as US$24 billion until 2022 to maintain a layer of capital known as MREL or Minimum Required Eligible Liabilities.

[COPENHAGEN] Several of Denmark's biggest banks will see their so-called bail-in buffers come under intense pressure as the Covid-19 crisis triggers an historic economic slump.

Stress tests published by the Danish central bank on Wednesday show that lenders may need to issue as much as US$24 billion until 2022 to maintain a layer of capital known as MREL or Minimum Required Eligible Liabilities, which is designed to absorb losses and ensure taxpayers aren't called on to bail out the industry.

"Over the coming years, several systemic banks will need to issue new MREL-eligible debt instruments to continue to meet the requirements," the bank said in its semi-annual analysis of financial stability in Denmark.

The central bank, which was forced to revise its testing due to the pandemic, also said some smaller banks will fall short of capital requirements if the economy sinks into a prolonged recession. Such a downturn is the most severe of the three scenarios envisioned by the bank.

The results of the stress test add to the likelihood that banks won't pay dividends on 2020 profits or start share buy-back programmes, Thomas Eskildsen, an analyst at Handelsbanken, said in a note.

Danske Bank, Denmark's biggest lender, is among the furthest advanced in the Nordic region in issuing MREL-compliant securities, mostly in the form of so-called senior non-preferred debt. 

Norway on Wednesday gave banks more time to fulfill MREL requirements. But Denmark's central bank said it wouldn't recommend a similar step.

Karsten Biltoft, head of financial stability at the Copenhagen-based central bank, told reporters it would be "strange" to relax requirements designed to prevent taxpayer bailouts now, as banks face a difficult operating environment. He wouldn't rule out that some may fall below minimum requirements for equity, forcing regulators to step in.

In the first quarter, Danish banks booked their biggest impairments since the financial crisis. The central bank said mid-sized banks are now particularly at risk as the pandemic puts more pressure on the kinds of small businesses they cater to.

The stability of Denmark's financial system won't be jeopardised by the collapse of a mid-sized lender, the central bank said.

Some Danish banks were already at risk of falling short on capital back in November, when the central bank's severe-case scenario pointed to an economic contraction of 5.2 per cent. Since then, the government has estimated that GDP will shrink 5.3 per cent this year.

Banks face significant losses as many of their customers go out of business. To prevent a credit crunch, Denmark dropped a key capital requirement - the countercyclical buffer - back in March to free up about 200 billion kroner (S$41.8 billion) for loans.

The financial regulator has told banks not to use the extra capital for bonuses or dividends. It has also warned the industry not to downplay the risk of losses when estimating impairments.

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