Nation Awaits Bank Stress Test Results

The results of the government's stress tests on the nation's 19 biggest banks will be made public Thursday. The tests are aimed at determining whether the banks are healthy enough to weather a recession.

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MICHELE NORRIS, host:

From NPR News, this is ALL THINGS CONSIDERED. I'm Michele Norris.

ROBERT SIEGEL, host:

And I'm Robert Siegel. For the rest of this week, prepare for news you can use if you own an MBA, a hedge fund, or more likely a mortgage or just a savings account at one of the nation's 19 biggest banks. It's almost time for the stress test results. A couple of months ago, the Treasury put those 19 banks on the figurative treadmill, made them run like it was an even worse recession, and tomorrow around this time we'll hear the tale of the financial EKG: who's healthy, who needs to get in shape, who has to stay on more federal TARP medication.

The banks themselves got the final word from regulators yesterday on just how much additional capital they'll be required to raise as a cushion against potential losses in a deeper downturn. Today, Bank of America said it will not comment on reports that it'll have to raise nearly $34 billion in new capital. But NPR economics correspondent John Ydstie will comment. Hi.

JOHN YDSTIE: Hi, Robert.

SIEGEL: John, your mission is to unpack and translate some of the stress test verbiage that we're going to hear so much of the rest of the week.

YDSTIE: Well, mission accepted.

SIEGEL: Okay. Let's start with - Bank of America has to raise $34 billion in new capital. Some other bank is required to raise more money in new capital. Why? Why would a bank be told you have to raise more capital?

YDSTIE: Well, the judgment of the examiners must be that under more difficult economic circumstances such as those in the stress test, which was 22 percent fall in home prices, unemployment rising above 10 percent, that Bank of America would suffer more losses and might not have enough capital, enough cushion to absorb those losses and remain viable.

We could see losses for loans to housing, which we've all heard about, but also now commercial real estate is of great concern. Credit card loans going bad as people lose their jobs. So there could be losses mounting, and they'll be bigger if the economy turns down even further.

SIEGEL: And the theory would be that if Bank of America found another $34 billion, then it could withstand that downturn with the defaults on loans that might come with it.

YDSTIE: Exactly.

SIEGEL: Okay, well, the next question is, how would they do that? And here's your next translation mission. This is what Fed Chairman Ben Bernanke said on Capitol Hill yesterday about how they would do that.

Mr. BEN BERNANKE (Fed Chairman): The extent that there are banks that need capital, our hope is that many of them will be able to raise that capital through either private equity offers, or through conversions and exchanges of existing liabilities to strengthen their capital bases.

SIEGEL: So, private equity offers selling stock.

YDSTIE: Right. Sell more stock to people. The problem with that right now, though, is the price of these stocks are quite low. You'd have to sell a lot of stock to get the money you need. And your current shareholders would be very angry because you'd be diluting their shares in the company by adding these other ones.

SIEGEL: Now, another phrase from Ben Bernanke yesterday was conversions and exchanges of existing liabilities.

YDSTIE: Well, this is where the government comes in. The government took preferred shares in these companies when it injected the TARP money into them.

SIEGEL: Preferred shares are essentially bonds, or loans to the bank.

YDSTIE: Bonds, essentially. And the government has suggested that it would allow these companies to convert those shares into common equity. That's something the government examiners are looking for right now.

SIEGEL: Now, some other possibilities - selling off assets.

YDSTIE: You could sell off some assets, loans or subsidiary companies. The problem is that the market right now isn't great, and Bank of America would probably like to hold onto those assets and sell them at a better time to get a better deal. You could also make some money. And if you made enough money, some of that could go to capital.

SIEGEL: You mean if it's a good year, generally, for the bank…

YDSTIE: Yes.

SIEGEL: …you would put away some of that money, and it would satisfy the requirements, perhaps?

YDSTIE: Right. The problem is the current situation is not great.

SIEGEL: I guess the last possibility would be to say, sign me up for the TARP again, doc, I'm still stressed out.

YDSTIE: They could do that. I think all of these banks would be reluctant to do that. That would be a horrible signal to the market. And there's not a lot of money left in the TARP, $110 billion still there. And the Treasury does not want to go back to the Congress and ask for more.

SIEGEL: Thank you, John.

YDSTIE: You're welcome, Robert.

SIEGEL: NPR economics correspondent John Ydstie.

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Reports: Bank Of America Has $34B Capital Shortfall

Bank of America needs about $34 billion in additional capital, far more than previously expected, according to published reports. The Wall Street Journal and New York Times reported that government regulators are telling the Charlotte, N.C.-based banking giant that it needs the extra capital based on results of government stress tests.

Bank of America has been among the hardest hit banks in the credit crisis and ongoing recession. It has received more than $45 billion in government aid already and has come under heavy scrutiny in recent months for its acquisition of Merrill Lynch.

Citigroup Inc., Regions Financial Corp. and Wells Fargo & Co. have also been asked to raise money, according to people briefed on the results.

But at least three of the nation's 19 largest banks have passed the government stress tests. American Express Co., JPMorgan Chase & Co. and Bank of New York Mellon Corp. will not be asked to raise more capital, according to people briefed on the results, which are due to be released to the public on Thursday.

For weeks, there has been speculation on the number of banks that might fall short and on how much capital they'll need to raise to guard against future losses.

The goal of the stress tests was to figure out how the 19 banks would fare if the economy got even worse than is currently forecast — if home prices drop an additional 20 percent and unemployment rises beyond 10 percent. The jobless rate was 8.5 percent in March.

Eugene Ludwig has spent plenty of time examining banks, as comptroller of the currency from 1993 to '98 and more recently as a bank consultant. He says a significant number of the 19 banks will need to raise their cushion against losses. More than half of them will need additional capital, but for many of them, Ludwig says, "it should be characterized as topping up."

That would mean at least 10 banks will be required by the government to boost their capital. But Ludwig says given that the boost would provide insurance against the possibility of an even worse economy, it's a positive outcome and should be comforting to the public. He does acknowledge that a couple of the banks could be forced to raise serious amounts of capital.

Douglas Elliott of the Brookings Institution predicts that the banks will have to raise a total of $100 billion to $200 billion.

"If it's lower than that, it will be a real sign that the regulators think the situation's better than we do. On the other hand, if it's more than that, say $200 billion, we're in trouble," he said.

Elliott, a former investment banker at JPMorgan Chase, says regulators would be admitting that the banks need a whole lot more money even though it is clear Congress has no intention of providing it. And that combination could be very unsettling for the financial markets.

The International Monetary Fund predicts that the banks might need as much as $500 billion in additional reserves.

Testifying on Capitol Hill on Tuesday, Federal Reserve Chairman Ben Bernanke disagreed. He said U.S. banks have already taken significant write-downs and made reserves against losses. And he expressed confidence that the banks could raise the needed capital in the private financial markets.

"I've looked at many of the banks, and I believe that many of them will be able to meet their capital needs without further government capital," he said.

That suggests that some will need more government help. It could come from the $110 billion left in the Treasury's Troubled Asset Relief Program bailout fund.

Elliott says a number of banks might also choose to raise capital levels by taking the government up on its offer to convert into common stock the preferred shares the Treasury initially purchased in banks.

"Essentially what we'll be doing is swapping a kind of loan for actual ownership of a part of the bank," he says. "So it increases the taxpayers' risk but also increases the potential return."

Taxpayers could make big gains if shares in the banks, which have been very depressed, rise significantly. But if they fall, taxpayers lose. Ludwig, a former comptroller of the currency, says taxpayers have an even broader interest at stake.

"It ... shouldn't be judged simply by what the taxpayer recoups in terms of that money. But it's what it does for the overall economy, in terms of job creation, activity in the economy, and ultimately tax recoupment, and I think that's how it should be judged," he says.

For bank shareholders, raising capital can be painful because initially, when new shares are created, the value of their holdings are diluted. That's why many banks have been arguing in private talks that they don't need as much new capital as the regulators say they do.

By Tuesday, though, the terms were set and the banks were told how much capital to raise. The results are due to be released to the public Thursday afternoon, when Treasury Secretary Timothy Geithner and Fed Chairman Bernanke reveal them in a news conference.

The banks that are found to need more capital after the stress tests will have one month to come up with a plan to raise the additional resources, federal regulators said Wednesday. The government said that after the results are released, the banks found to need more capital will have until June 8 to get a plan approved by their regulators.

With reporting from NPR's John Ydstie and The Associated Press

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