Fed: Large Banks Would Remain Well-Capitalized Under Severe Stress

Morgan Stanley Barclays Goldman Sachs JPMorgan Credit Suisse Citigroup and Bank of America Merrill Lynch from Reuters archive

US banks passed the first round of stress tests issued by the Federal Reserve to determine whether the banks could survive potential recessions, according to CNBC. The banks undergoing the seventh annual check-up included JPMorgan Chase & Co., Bank of America Corp., Citigroup Inc. and Wells Fargo and Co. - the four biggest USA banks by assets.

The Fed introduced stress tests after the 2008 financial crisis rocked markets around the globe in order to examine whether the country's biggest banks could handle a severe recession.

Wells Fargo & Co's US$7.7 billion in trading and counterparty losses came close to firms with larger Wall Street operations, with Morgan Stanley at US$9.5 billion.

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Mr Powell said this week the Fed would be open to reasonable changes to the law, including the threshold for including banks in the stress tests. The Fed is expected to release that component next week. Bank executives and many investors hope the Fed will allow lenders to put a lot more capital toward stock buybacks and dividends.

United States unemployment would rise to 10 per cent, accompanied by a 35 per cent drop in commercial real estate prices and pressures on corporate loan markets as well. The tests compare the losses projected for each bank with its capital.

Regulators can reject a bank's capital plan for either reason.

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Aggregate Tier 1 capital ratios at the 34 firms subjected to the Fed's stress-test program would fall from an actual 12.5 percent in the fourth quarter of 2016 to a minimum of 9.2 percent under the test's most extreme hypothetical scenario - which includes, among other things, 10 percent unemployment, falling treasury rates, a 25 percent decline in home prices and a 35 percent drop in commercial real estate prices.

Testings results released Thursday by the Federal Reserve show that the 34 institutions under scrutiny have enough capital to make it through the two scenarios regulators posed - one akin to the financial crisis and another entailing a shallower downturn.

The combined loan losses would be $383 billion. The reviews have encouraged the 34 banks to add more than US$750 billion (S$1.04 trillion) in common equity capital since 2009, with a focus on safe and less profitable businesses.

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According to the stress tests, the 34 largest American banks would incur almost 383 billion USA dollars in loan losses during the most severe scenario where the unemployment rate will rise to 10 percent and a severe global recession will accompany with heightened stress in corporate loan markets and commercial real estate.

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