Jeffrey Cane

Jeffrey Cane’s Profile

First in Show

May 8, 2009

The U.S. government’s “stress tests” on the banks were always going to be an exercise in showmanship. The intensity of the effort was impressive, with more than 150 officials digging into the 19 largest bank holding companies for two months.  Regulators, to be sure, regularly consider various future scenarios in determining whether an institution has enough capital. But the review that was announced with much fanfare on February 10 turned what is ordinarily a behind-the-scenes affair into something like an awards show. There would be winners and losers, yet it would be an orderly presentation.  When many details leaked out early, the gloomiest whispers about the banking sector were hushed, and the stock market cheered.

The market may also applaud the official results, which were better than some forecasts.  Just 10 of the 19 will need to raise a total of $74.6 billion in new capital, and several of the banks immediately announced their plans to raise the capital.  Others will try to announce their plans in the next few days, certainly well before the June 8 deadline.  Bravo. Now that the prizes have been handed out, should we have any greater confidence in the banking system?

No. The stress test results underscore that the banking system is in a holding pattern, neither completely insolvent nor particularly healthy, and still dependent on the backing of the federal government. Lending by the banks is not going to pick up any time soon, with problem loans still on their books and businesses and consumers restrained by the recession.  Credit cards are a worry, with the results showing that the cumulative loss rates on credit cards estimated for the next two years to be nearly as high as those on subprime mortgages in both the baseline and “more adverse” scenarios.

The manageable size of the capital shortfall will come as a relief, but certainly not as a surprise, to the Obama administration, which has been unwilling to pursue more radical actions. It lacks the political will to seize and break up Bank of America, for example, or to ask Congress for additional couple hundred of billion dollars  to pump into institutions.

Its strategy appears to be to try to buy enough time before an economic upturn can begin to take hold and help the banks rebuild. Alas, a recovery is much harder to stage manage.