US Decides to Disclose (Some) Results From Stress Tests

Now in fairness, the Administration is in uncharted waters in this economic crisis, and has launched a number of new programs to try to restore a measure of health. We’ve lambasted just about all the bank program as being based on the flawed premise that asset prices are temporarily distressed, rather than the recognition that a tremendous amount of credit was given to people who even at the time could not have realistically serviced the debt, plus another group that would be money good only if the economy kept running in high gear. But rather than accept the new reality, they are instead trying to prop up asset prices to restore status quo ante.

Aside from content, a second problem has been process. Despite Team Obama’s desire to be more consistent than the often improvisational Hank Paulson, they seem to be suffering from the same syndrome, of not being able to think enough moves ahead. For instance, Geithner first announced a plan to have a bank industry plan. That went over like a ton of lead bricks. Then he announced the public private partnership concept. Embarrasingly, the banks have started to buy up bad paper, making all too apparent the fact that the effort is merely to provide a huge, opaque subsidy to the banks, rather than an equity infusion (which economically is what this amounts to). But more equity infusions would lead to calls for more control or a resolution (let’s face it, if the banks need that much life support, they need to be put into receivership and restructured). But the Obama camp has decided we don’t do nationalization in America, as if Mussolini style corpocracy is a better option.

Then we had the change in eligibility for the legacy securities program for the PPIP. Recall the original plan was to have only four or five very large fund managers (the standards were written so that very few would qualify). That produced howls of protest, and now the program is being opened to smaller managers.

The latest change in direction is on the bank stress tests. We’ve been cynical about them from the get-go, seeing them as more PR than substance, since both the design of the tests and the manpower devoted to them guarantees that the examination will fall woefully short of what is needed. Although the analysis will be used to (presumably) make some of the 19 banks raise more capital, either on their own or from Uncle Sam, the main purpose was to assure taxpayers that their money was being spent wisely, the banks were not goners, that the Treasury does know what is going on and has procedures in place.

But no one gave any thought to what would happen with the results of the stress tests, Treasury had assumed it could get by with merely going through the process and assumed the results (as in which banks needed to raise dough) would speak for itself. Then the trial balloon was floated of releasing aggregate results, and that did not go over well either.

Now the New York Times reports that the Treasury has decided to reveal “some” stress details, its hand being forced by…..Goldman Sachs. The irony is rich, but if the markets take badly to some of the information revealed, this could produce a result exactly the reverse of what the Administration intended to achieve with this effort.

From the New York Times:

The Obama administration is drawing up plans to disclose the conditions of the 19 biggest banks in the country, according to senior administration officials, as it tries to restore confidence in the financial system without unnerving investors.

The administration has decided to reveal some sensitive details of the stress tests now being completed after concluding that keeping many of the findings secret could send investors fleeing from financial institutions rumored to be weakest.

Yves here. Do you notice the logic at work here, “rumored to be weakest”? Again, the powers that be believe this is all a matter of perception. It never seems to occur to them that some of the banks really might be in very bad shape.

In addtiion, I wonder if the willingness to reveal “some sensitive details” might open Treasury to reveal more via Freedom of Information Act requests. Unless information is competitively sensitive (and I don’t see how the results of these tests could be) I don’t see a compelling argument for withholding the findings, since the will be implicit in the capital raising requirements, which are to be revealed. Note that the Wall Street Journal suggests that there is an internal difference over how much to disclose:

It isn’t clear precisely what information the government might disclose. It remains possible the data won’t be specific to individual banks. But some within the administration believe a certain amount of information needs to be released in order to provide assurance about the validity and rigor of the assessments. In addition, these people also are concerned that the tests won’t be able to fulfill their basic function of shoring up confidence unless investors are able to see data for themselves.

Staff at the various regulatory agencies have been discussing the matter for several weeks and are expected to brief top regulators as soon as this week. One possible solution: Aggregating the data provided by the banks so the government could provide a broad snapshot of the banking industry’s health without disclosing firm-specific data.

Yves again. I thought aggregate data was Plan A, and we were past that. Aggregate data will not satisfy anyone. Back to the New York Times:

While all of the banks are expected to pass the tests, some are expected to be graded more highly than others. Officials have deliberately left murky just how much they intend to reveal — or to encourage the banks to reveal — about how well they would weather difficult economic conditions over the next two years….

Yves here. That means this is being negotiated. Wonder if the Times story was leaked to box the banks in and (as you will see later) blame it on Goldman. If so, this crowd would be playing a much smarter game than I have given them credit for (the “Goldman made us do it” part, the leak alone is a more predictable move). And this story was clearly planted. The Times reports it came from “senior officials”; as we noted, the Journal also has a story up. Back to the story:

The administration’s hand may have been forced in part by the investment firm Goldman Sachs, which successfully sold $5 billion in new stock on Tuesday and declared that it would use the proceeds and other private capital to repay the $10 billion it accepted from the government in October.

That money came from the Troubled Asset Relief Program, or TARP, and Goldman’s action was seen as a way of predisclosing to the markets the company’s confidence that it would pass its stress test with flying colors.

Goldman’s action has put pressure on other financial institutions to do the same or risk being judged in far worse shape by investors. The administration feared that details on healthier banks would inevitably leak out, leaving weaker banks exposed to speculation and damaging market rumors, possibly making any further bailouts more costly.

The Goldman move also puts pressure on the administration to decide what conditions will apply to institutions that return their bailout funds. It is unclear if Goldman, for example, will continue to be allowed to benefit from an indirect subsidy effectively worth billions of dollars from a federal government guarantee on its debt, a program the Federal Deposit Insurance Corporation adopted last fall when the credit markets froze and it was virtually impossible for companies to raise cash.

Yves here. By any logic (except the bank-friendly type operative at the Treasury), Goldman should be kept on TARP-esque terms as long as it is getting subsidies based on the assumption that it needs extraordinary government support, However, I peg the odds of Goldman being required to refinance the FDIC backed debt as about zero. Back to the story:

“The purpose of this program is to prevent panics, not cause them,” said one senior official involved in the stress tests who declined to speak on the record because the extent of the disclosures were still being debated. “And it’s becoming clearer that we and the banks are going to have to explain clearly where each bank falls in the spectrum.”…

Concern about the impact of the stress tests on the financial markets has been deep. Last week, the Federal Reserve, acting on behalf of itself and other regulators, sent e-mail messages to banks undergoing the stress tests, urging them to say nothing about the tests during the earnings season, including their capital needs or plans to return TARP money.

Yves here. So it looks like Goldman defied orders. Back to the piece:

Despite the regulators’ warning, there is evidence that some banks are trying to signal to the markets early that their quarterly results will look good — and, by implication, that investors should not worry about the tests.

Citigroup and Bank of America made positive statements about the current quarter weeks ago, and last week, John Stumpf, the chief executive of Wells Fargo, said the bank was in good shape and expected a $3 billion profit this quarter. The Wells Fargo statement appeared to frustrate some Treasury officials, and regulators clearly fear it will be more difficult for them to issue negative assessments of banks that have already proclaimed that they are in good shape.

Yves again. That comes pretty close to saying the Feds don’t buy Wells’ earnings release. That’s serious, and consistent with analyst views. It also shows how banks have become accustomed to pushing regulators around, when in fact a regulator can greatly increase capital requirements when warranted (and given all the dreck on these banks’ balance sheets, that would be in order in the normal course of events) and yank their license. And there are lesser tortures, like intrusive inspections. But that in turn requires staffing, and the industry has done a great job of pushing for less oversight, which has in turn lead to headcount cuts.

This may turn out to be a minor sideshow, but if it comes to a head when markets are rattled, we could see more serious fallout, as some warned the Journal:

The move to stop treating banks equally is sparking concern about the effect on specific institutions seen as weaker than peers. “You can create a run on a bank pretty quickly,” said Eugene Ludwig, chief executive of consulting firm Promontory Financial Group and a former Comptroller of the Currency.

Wayne Abernathy, executive vice president of financial institutions policy and regulator affairs at the American Bankers Association, said the government needs to provide information about the results but also protect examination data.

“I don’t think they can ignore the appetite they have created for this information,” Mr. Abernathy said. Having the government publicize some information would allow policy makers to control the message. “It’s what can we say that is meaningful while still protecting the quality of that exam data,” he said.

Mr. Ludwig cautioned that any information could give rise to mischief. “Bank exams are confidential for good reason,” he said. “Given the kind of confidential information they contain, there is always the possibility of misuse or misinterpretation.”

While Ludwig is likely correct, the Administration created this risk with an element of program design not stressed in these stories. Remember, a bank that fails the test is given a certain amount of time to raise equity, and if that fails, they have to take more TARP funding. Now pray tell, how is a bank going to raise capital except on hugely dilutive terms when it is evident that it did badly on the test? The revelation that a bank got a low score, more than the high level and not terribly revealing tidbits, will be the source of trouble.

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  1. Anders


    "Then we had the change" => "Then we had to change the"

    "Back to the story:
    The administration’s" => Add indentation of "The administration's" sentence

    Cynically speaking, any information can be considered competitively sensitive in this day and age – why, that's the whole point of the hoopla about naughty Goldman Sachs tattling to the market.

  2. John D

    Looks like the iterated prisoner’s dilemma is reaching the “it is better to defect” phase.

  3. Richard Kline

    As I commented in relation to another post, I suspect that the major financials have realized a-sudden that the Federal Government’s spending capacity is capable of fewer golden chairs than there are presently chairman, so that a violent kicking is beginning toward to back of the queue as to who will be physically compelled to exit the door of the helicopter next. GS is, of course at the front of the queue, and kicking it on donw the line. BSC got pushed and LEH crippled last Spring, the latter to be ejected a 1000 feet in September. Now, huffing is coming from Wells’ corner, and Citi’s knuckles are white clinging to the door frame.

  4. campbeln

    I’m wondering about Goldman… They dumped all the red ink into the orphaned December, pumped up Jan-Mar to 1.7b profit while getting what, $12 by way of AIG while claiming $10b in exposure with $7.5b covered by collateral… The “off” statements by the CEO…

    What if Goldman was one of the “losers” of the stress tests and they came out swinging? They’ve got everyone convinced that they were among the creme-de-la-creme of the test takers, but their actions speak differently to me. At least in a “what if” kinda way.

    ‘Course, I’m a computer nerd, and not an economist, so if I’m WAYYY off base please keep the laughter and personal attacks to a minimum =)


  5. Ginger Yellow

    I find it hard to believe that Goldman is among the worst in the stress tests, unless they’ve been flat out lying about their exposures. They’ve just got much less gross exposure now to the particularly vulnerable sectors than other large banks, let alone net. Commercial real estate is $8.5bn total. Residential is $4bn. Leveraged loans is $2.3bn. Even if all those go to zero, other banks who haven’t reduced their balance sheet to the same extent are going to be in much worse shape.

  6. lineup32

    Team Obama would not have the financial PR problem with bank stress test if they were not playing a shell game and telling white lies.

  7. Neal

    The grumpy elf Roubini said:


    But if you look at the actual data today macro data for Q1 on the three variables used in the stress tests – growth rate, unemployment rate, and home price depreciation – are already worse than those in FDIC baseline scenario for 2009 AND even worse than those for the more adverse stressed scenario for 2009. Thus, the stress test results are meaningless as actual data are already running worse than the worst case scenario.

    (end quote)

    So if banks are in trouble with the “lite-limited-look” stress test, it will end up very badly.

    As for Goldman Sachs, recall that their employee Paulson was present during the beginnings of the crisis manifestations and so has provided them enough of a heads-up as to how to re-position. They’ll survive. Others won’t. It pays to be connected.

  8. scattershot

    So I have a couple of basic questions on this whole stress-test thing, probably arising from incredible naivete:

    1) What does it mean to say that no bank will ‘fail’ the stress test, while at the same time saying some banks will need ‘substantial’ extra capital? One implies the banks are solvent, the other that they are not.

    2) Public companies are required to reveal materially significant information to the public, right? Solvency would seem to qualify, as would the results of a formal test of expected future solvency. How could this information not be released?

  9. Anonymous Jones

    It would not surprise me that Goldman did in fact encourage the release of the tests. It further would not surprise me that their motivation was to pick off the deposits of one of the weaker institutions (like what happened with WaMu) after the tests reveal that some must be closed.

    This is also entirely consistent with their evident and deep desire to show the world, “We’re fine. We’re fine. We’re paying back the TARP.” Goldman doesn’t much care how many of its rivals survive, just that it stays on top.

  10. delSarto

    I apologize that this is off the topic but can someone (like Yves) please take out this jerk who was fouling up NPR this morning. Some clown named Richard Bove, an ‘analyst’, was trying to say how everything was just fine and the trouble was with a few arcane rules. It was so delusional I couldn’t follow it. The link is here:
    But the larger problem is NPR itself. This is far from the only reactionary nonsense they’ve broadcast recently. Isn’t it possible to shame them or something?
    Robert H. Consoli

  11. Cat

    One probable outcome of this last-minute scramble for chairs at the table is that the 19 will become the 12-15 over some weekend coming up. The stress tests could simply be a “fair and transparent process” to see who gets eaten, and the resulting cannibalism will likely happen out of sight of squeamish markets.

    So at what point in the future is there one bank, and GS is it? Even if there are regional players, there might be “one bank to rule them all and in the darkness bind them” and we aren’t meaning the Fed. Standard Oil might be seen as the yardstick for how these things play themselves out.


  12. emca

    I feel Obama’s pain. The purpose of the stress test was to avoid having to price assets at current market value, that is to salvage U.S. finance (large banks) yet still maintain a semblance of diligence. Now it appears banking titans have decided in the spirit of true capitalism that its every man (excuse the inference) for himself; others be damned. The stress test (and other government rescue operations) rather than obfuscating the question of individual and overall insolvency, is to be a weapon used by the banks themselves to gain a competitive advantage. Not much gratitude after all Geithner has done to help GS along.

    Then again if I were of a more conspiratorial bent I’d say: “mission accomplished”.

  13. Harlem Dad

    Downsouth @ 10:01 AM referenced a nice CNN link about Credit Card bank abuses:

    I offer one quote from that report:

    [t]he American Bankers Association [said] “the competitive market dictates fees and interest rates for banks … “

    Anyone seriously desiring a Revolution should consider the following. Reforming the financial system is not possible. The “competitive market” mentioned above needs to be allowed to work. Goldman, AIG, Citibank, etc., and several large credit card banks need to go bankrupt.

    This will be painful to all Americans including myself. But we’re in for a load of pain anyway. If Wall Street as we know it goes down, this will clear the way for honest bankers (and there are hundreds of thousands of them) to start new companies that provide needed services at fair market, not predatory, rates.

    I’ve read that Securitized Credit Card Debt is the next big shoe to fall. Let’s not wait. Let’s precipitate it.

    Boycott the Credit Card industry.

    By boycotting I mean (1) pay off your CC balances as quickly as possible, (2) cancel all CCs but 1, (3) cancel ALL store cards, (4) use your Debit Card for purchases, and (5) if you must use that 1 credit card you haven’t cancelled, pay the balance in Full every month. Never, ever carry a balance on a CC again.

    Important: When you cancel your CC, they will ask you why. Tell them you’re disgusted with their excessive fees and abusive interest rates. If they offer you a lower rate, be firm. They offered you a lower rate before. Would any one of us have gotten a credit card if they had told us up front that the interest rate is 35%? And that the penalty for paying 1 day late would be a minimum of $39?

    Cancel the card. Tell them you will never use credit cards again.

    If citizens do only 1 thing to repair their household balance sheets, cancelling credit cards should be it. You’ll stop an enormous hemorrhage of personal money. You’ll learn how to be selective about the things you think you need to buy. And you’ll deal a Body Blow to big Wall Street institutions that have been gleefully thumbing their entitled noses at us while cashing our checks.

    This action has several things to recommend it. It’s a great way to channel the rage of ordinary people. It’s non-violent. It doesn’t require mobs of angry people marching and carrying signs. People can do it from the privacy of their own soon-to-be-foreclosed upon homes. It can be organized over the internet.

    Finally, we assert ourselves as citizens, not consumers. As citizens we have responsibilities to civic life, to our children, to our neighbors’ children, to our neighborhoods, to our common life.

    Let no one ever slander us with that word, consumer, again.

    What do you think? Please tell me.

    Tim in Sugar Hill

  14. bob


    No bank will fail the stress test beacuse that in it self would trigger a ‘bank run’

    It’s like yelling fire in a crowed theater, you never announce a bank is in trouble, you take care of it quietly before it becomes a bigger problem, usually the FDIC steps in and takes over.

    Most of the institutions that are being debated are way to big or complicated for the FDIC to handle.
    Too big to fail.

  15. Neal

    Either Dick Bove is the smartest person with regard to the financial world or else he’s not.

    He’s not. Google him.

  16. Marc

    “Wonder if the Times story was leaked to box the banks in and (as you will see later) blame it on Goldman. If so, this crowd would be playing a much smarter game than I have given them credit for (the “Goldman made us do it” part, the leak alone is a more predictable move). And this story was clearly planted.”

    Very interesting thought, and great article in general. It raises some issues about the symmetry of information which I blogged about here:

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