Stress test the consumer
– Christopher Swann is a Reuters columnist. The views expressed are his own –
People can be divided into three classes, it has been said: the haves, the have-nots and the have-not-paid-for-what-they-haves. The prevalence of the third category may be the biggest single source of vulnerability for the U.S. recovery.
A stress test of the consumer could reveal more distressing results than the one conducted on the banking system.
Debt is at high levels — 130 percent of disposable income, or more than twice its peak in the late 1980s. A slide in net wealth has reduced the collateral Americans can draw upon for emergency loans. Finally, it is now harder to borrow money for new consumption or to roll over existing debt.
Like a compromised immune system, this weakness makes consumers extremely susceptible to further shocks. Traumatic as the recent bout of retail restraint may have felt, worse may be in store. After all, consumption rose by 18.5 percent in the seven years to 2008. So far it has only fallen back by less than 2 percent.
There are several potential mishaps that could swiftly undermine consumer spending and set the recovery back to square one.
Among the most likely problems would be a continued slide in house prices. Even on the conservative measures used by the Federal Reserve, the value of residential real estate has fallen 18 percent since 2006.
Stress tests: The results are in, now what?
– Mark T. Williams, who teaches finance at Boston University’s School of Management, is a former Federal Reserve bank examiner. The views expressed are his own. –
The market has anxiously waited over two months. With the stress test results in, we now have our work cut out for us. Not that these findings were surprising, as the 10 banks which made the government’s “need to raise additional capital now” list are the usual suspects, such as Bank of America (BofA), Citigroup, Wells Fargo, SunTrust, Fifth Third, KeyCorp, and Capital One. They were problem banks before the tests and they continue to be. But this painfully drawn-out process has spawned four tangible benefits worth discussing.
First, the stress test results raise an important policy question: Should our largest banks, those central to our economy, be allowed to take such large risks? These results paint a clearer picture of the level of risky lending practices that many of our 19 largest banks engaged in over the last decade. The government’s assessment provides added support to the need for re-regulation in this vital industry. In the worst-case scenario, the Fed reported that these banks, which control the majority of our country’s deposits and loans, could need to raise approximately $600 billion in additional capital just to cover increased loan defaults.
Second, the stress test results show that risky bets were not just concentrated but spread over many areas, including trading and financial contracts, first and second mortgages, commercial loans, securities, and credit cards. Having more detail on the sheer scope and size of these risky bets and potential losses provides a stronger case for the need to revamp the capital standards currently applied to banks.
It also raises the question of how the Fed and other regulators might monitor the on-going level of bank risk-taking activities. Under the existing Tier 1 regulatory capital standard, almost all 19 banks pass with flying colors, yet the stress tests show a bleaker picture as the majority failed this equally important financial health test. The level of risk they are taking, should the economy weaken further, can not be supported by their current level of capital. Tests indicate that the 10 weaker banks need to raise approximately $75 billion to cushion against those losses.
Going forward, higher regulatory capital standards should be mandated. Banks also should be discouraged from risky lending practices, and a new Glass-Steagall type act, which was unfortunately repealed in 1999, needs to be put back on the table. Doing so will help to separate higher risk-taking banks from lower risk-taking banks.
Third, the stress test results highlight the fragility of our banking industry and the need for bankers to rethink what are acceptable levels of risk taking. Not long ago, the term “stodgy” was used to describe a bank or banker. Today it’s more accurate to use “risky.”
Just one thing more should happen after your points.
Banker’s income should be decoupled from share value and company’s profits. The remodelling of their income not fully connetced to equity stakes and involved interests, should/could help, in addition to your 4 point remarks, to refocus on recalibrated risk-taking.
Bond markets give stress test thumbs down
– James Saft is a Reuters columnist. The opinions expressed are his own –
The most revealing verdict on the results of the U.S. banking stress test was delivered not by shareholders but by the vigilantes of the bond market, who shunned an auction of 30-year government debt.
This makes sense: if the U.S. is letting banks off too lightly it will be taxpayers and the people who lend the U.S. money who will have to pick up the bill.
The stress test, which showed that 10 large banks will need to raise about $75 billion in capital, was greeted with euphoria by bank shareholders, despite being heavily leaked.
That’s no surprise, the stress test is useful not so much as a set of forecasts about the economy or bank losses, those being arguably too optimistic, but as a signal from government to capital about the rules of the game. It matters not because it is true but because of who is saying it.
Think of it as a term sheet in which the U.S. seeks junior minority investors to take some of its exposure to its banking system. The message is we will give you enough rope to try to earn your way out of your hole; if it works the rewards will be huge.
The U.S. has already said that none of the 19 banks would be allowed to fail, and if the past year has taught us anything it is that banks are creatures of government, the corollary being that that government has to pick up the pieces if banks fail.
David,
I too love a good melodrama, but IIRC, Germany and Japan were bombed into oblivion, yet did not require a generation to re-build. How is it that a country with less national debt per head of GDP than the average OECD country will have a worse fate.
As depressing as this decade will turn out to be, and yes the dollar will eventually decline, but much slower than dollar cynics would have us beleive. For one, the Dollar is a global store of wealth and a key medium of exchange for trade. Therefore, the same sort of counter-reality dynamics we see by Governments with regards to tackling the financial system, will also be applied to dollar decline denial. I sense plenty of schadenfreud from Europeans on these comment sections.
The issue is the extent to which the government will kick this can down the road, and socialise the problem wider and deeper, but over a longer period of time.
Barclays monoline insurance ploy pays off
– Margaret Doyle is a Reuters columnist. The opinions expressed are her own –
By Margaret Doyle
Barclays has avoided the dead hand of state shareholding and, on Thursday’s evidence, it looks as though it will escape completely.
Barclays Capital has enjoyed a storming first quarter — so good it is hard to see it being sustained — which has allowed the bank to make more big write-downs and still report a 15 percent increase in pre-tax profit.
The key question is whether its provisions against so-called level 3 (hard to value) assets are sufficient.
On the face of it, they do not appear to be, because they have provided for a write-down of 24 percent on an alphabet soup of American junk assets. That compares to a write-down of 75 percent taken on a bunch of similar assets by Societe Generale, which unveiled an unexpected first-quarter loss.
Both bought insurance against a deterioration in the value of these assets, in Barclays’ case, 27 billion pounds-worth, from “monoline” insurers.
Failure is the only success in stress test
– James Saft is a Reuters columnist. The opinions expressed are his own –
The stress test of banks now underway in the U.S. is one exam in which failure will be the only true measure of success, at least in terms of speeding a recovery.
The U.S. will release some information about the methodology of the stress test of 19 major banks on Friday according to reports, with results slated for release in some form on May 4.
What is far from clear is if this will be some sort of self-deluding exam in which all of Treasury Secretary Tim Geithner’s children are judged to be above average or whether the U.S. will take this opportunity to take real and difficult remedial action with banks that are too insolvent to play their role in the economy.
Keep Dreaming..
Maybe if we all click our heels together in our magical ruby slippers we can resurrect the american middle class from the destruction of the last ten years.
Unfortunately, today we face the effects. Jobs are being lost. What was once a two income household is now a one or no income household? Granted many of us have borrowed against future income and now it is difficult or impossible to repay that loan. Many will make mortgage and car payment while buying food and what clothing is necessary and the rest will go by the wayside. The rest will just hope they don’t take home and car to soon. It is sad.
Now for anyone to state that Gas prices didn’t contribute to the collapse get off you bicycle and try driving to work. I would love to get off of gas and onto a better more economical and efficient mode of transportation but the auto industry has done nothing since the last oil crisis in the 70s to bring the internal combustion engine to its fullest potential or put out a viable alternative to the gas guzzlers. What do they give us but toy cars like the Volt and crap like the hybrid? No we should not have bailed out the auto industry. They have brought this debacle unto themselves. I would have loved to see new blood come out and take over our auto industry.
The consumer is always the ultimate payer. We pay while our voice is silent in Congress. We pay while CEOs are paid 100 times their worth. We pay as our retirement funds are slashed in half and our government does absolutely nothing to bail us out. You could run a consumer stress test but, we would fail.