Euro Area: Publication of Financial Sector Assessment Program Documentation-Technical Note on Stress Testing the Banking Sector

This technical note (TN) focuses on the euro area (EA) banking sector, which has weathered a succession of shocks over the past few years with notable resilience. Strong starting capital positions, ample liquidity and a diversified deposit base allowed banks to absorb the effects of the COVID-19 pandemic as well as the surge in inflation and rapid monetary policy tightening that followed. Capital ratios and liquidity cushions have in fact edged higher, non-performing loans continued to decline and profitability rose to post-global-financial-crisis highs in 2023, buoyed by wider interest margins. Even so, the picture is uneven: large cross-border groups display thinner capital and liquidity buffers, in line with structural differences in business models, and lower returns than their mid-sized domestic peers. Also, profitability retreated in late 2024, as asset-quality indicators began to soften. These recent trends signal both the rewards of prudent balance sheet management in good times and the latent pressures that could resurface should macro-financial conditions deteriorate.