1 of 3
Johannes Eisele,Pool, Associated Press
German Chancellor Angela Merkel, left, speaks before a second meeting on the reform of the international monetary system on Thursday Oct. 6, 2011 at the Chancellery in Berlin. Merkel reiterated Thursday that re-capitalizing Europe's banks needs to be considered as the continent's sovereign debt crisis simmers.

BRUSSELS — European regulators are examining whether banks on the continent have big enough buffers to sustain the worsening market turmoil, amid fears that a default by Greece could trigger another credit crunch and recession.

One of the scenarios the European Banking Authority will look at in a new report on lenders' capital levels will be larger losses on Greek government bonds, a European official said Thursday. The fear in the market is that such an event could cause a severe credit squeeze, as happened in 2008, that would even threaten banks not exposed directly to Greece's debt.

European Union finance ministers will discuss the results at their next meeting in early November, said the official, who was speaking on condition of anonymity because of the sensitivity of the issue.

The EBA said the exercise was not a new round of stress tests and would be based on the same figures as stress tests published in July, when only nine banks failed and 16 others barely passed.

The president of the European Commission, Jose Manuel Barroso, said that the EU's executive was preparing proposals for a coordinated recapitalization of the banking sector, after German Chancellor Angela Merkel backed such a move Wednesday.

"We are determined to do everything necessary to ensure that Europe's banks are able to play their essential role in lending to citizens and businesses. Recapitalization efforts are well under way, additional efforts may be needed," Barroso said. "Close coordination at European level is of course essential."

Barroso declined to go into details of the proposals or comment on how much money may be needed.

Merkel on Thursday reiterated that fresh capital injections for the banks would be "sensibly invested money" if experts conclude that they are neccesary.

"Then we should not hesitate because the possibly occurring damage could be vastly higher," she said, while adding that "the first step must of course be that banks try themselves to get capital on the markets."

Speculation that Europe is looking at a coordinated plan to recapitalize its banking sector has been the main reason why stock markets have rallied over the past couple of days following a dismal start to the week.

In the U.S., President Barack Obama said the EU has to act fast to deal with its debt crisis, but is confident that European leaders are prepared to take the necessary steps.

"My strong hope is that by the time of that G-20 meeting, that they have a very clear, concrete plan of action that is sufficient to the task," he told a White House news conference, referring to the meeting of leaders from the twenty most advanced economies that will be held in France in early November.

Franco-Belgian bank Dexia SA has been at the forefront of investor concerns this week over its exposure to potentially bad government debt and its share price has been under severe pressure. The French and Belgian governments have indicated that some sort of deal to save the bank could be announced later Thursday.

The president of the European Central Bank, Jean-Claude Trichet, also escalated his commentary on Europe's banks, but said that measures had to be adapted to each bank's individual situation.

"The situation of the banking sector calls for particular attention," Trichet said at the bank's monthly press conference. He urged lenders to strengthen their balance sheets, hold on to profits, keep an eye on salaries and bonuses and raise capital on the markets.

Those that can't get enough money from private investors should not hesitate to turn to their governments, Trichet said.

The International Monetary Fund, a key player in the eurozone debt crisis, said lenders across the continent may need as much as €200 billion ($267 billion) to boost their capital cushions enough to restore a loss of confidence in the sector.

Some of that money could come from private investors via capital increases, but analysts expect that governments may have to put up significant amounts for lenders than can't raise money on the markets.

The EU disputes the IMF's €200 billion estimate, but has been warning that lending between banks and from banks to businesses is threatening to freeze up. Some analysts have warned that this freeze could soon create conditions similar to the aftermath of the collapse of U.S. investment bank Lehman Brothers in 2008.

However, some countries have been slow to set up sufficient backstops for their lenders, reluctant to commit more public money as they are already under pressure over their high debt levels.

There seemed to be little support for allowing the eurozone's €440 billion bailout fund to recapitalize banks directly — as has been demanded by the IMF. Trichet, Merkel and Finnish Prime Minister Jyrki Katainen all said that the European Financial Stability Facility could lend money to governments that can't afford pumping more money into the banks.

Letting the EFSF recapitalize banks directly could speed up the process, because countries often hesitate to request emergency loans from the fund, which are attached to painful austerity measures and economic reforms.

Desmond Butler in Washington and Juergen Baetz in Berlin contributed to this report.