Markets will shrug off test results

The aggregate result of the tests was that the tier one capital ratio of the assessed banks would fall from 10.3 per cent at the end of 2009 to 9.2 per cent by the end of 2011. This was well above the six per cent hurdle set by CEBS and the four per cent regulatory minimum.

That said, 1.2 percentage points of this tier one capital comes from some 38 banks that are continuing to receive government support.

The capital shortfall for the banks that failed the test has been put at €3.5 billion, way short of the €75 billion or so estimated by Nomura and Barclays earlier in the week.

Nevertheless, Spain and Germany said they have set-up funds to help their weak banks and Spain is pushing for more cajas to merge. Greece has committed to participating in a recapitalisation of its failed bank.

The big question now is how are the markets going to react today? The results may well be shrugged off because there was some other startling data that was released on Friday - the European economy is improving fast.

German business confidence is at a three year high, according to a new survey, and the UK economy grew at 1.1 per cent in the June quarter, the highest growth rate in four years. This puts the US in the shade with a double dip recession now feared there.

The surprising economic data spurred ECB President, Jean-Claude Trichet, to call for an immediate start to tax hikes and spending cuts.

This shift in the international outlook suggests that the odds of an increase in the cash rate by the RBA next week have improved considerably.