So, what are these tests, anyway?
WASHINGTON — The government began to conduct financial "stress tests" Wednesday to determine how well the biggest U.S. banks could hold up if the recession gripping the country got worse. Here are some questions and answers about the tests.
What are these "stress tests," anyway?
The government is looking at the financial conditions of the biggest banks — Citigroup Inc., Bank of America Corp., Goldman Sachs Group Inc., JPMorgan Chase & Co. and others — to help decide whether they have sufficient capital to withstand fresh shocks to the
economy over the next two years.
Economic scenarios used in the bank stress tests help reveal any potential weakness. Stress testing is widely used in the financial industry; federal regulators use it in their periodic "safety and soundness" reviews of banks, and banks run their own stress tests.
How do they work?
The tests use computer-generated models to gauge the effect of various "stressors" on the bank’s financial condition, trying out several hypothetical settings of factors such as interest rates, unemployment and business conditions.
As a banker, "you run a variety of future scenarios and what it means for your bank," said Wayne Abernathy, an executive vice president of the American Bankers Association.
What scenarios will the Treasury Department use in this new stress testing?
The tests are expected to take into account a broader-than-usual range of economic indicators. Also, looking two years ahead pushes the tests well beyond the usual time frame of six months.
The banks will be tested under two economic scenarios: what the government calls a "baseline" and a "more adverse scenario," reflecting a deeper and longer recession.
The scarier scenario includes a 3.3 percent decline in gross domestic product this year; unemployment rising to 8.9 percent this year and 10 payday loans online.3 percent in 2010 from the current 7.6 percent (already the highest in more than 16 years); and house prices plunging 22 percent this year and 7 percent next year.
Should we be worried about this worse-case scenario?
Government officials say — stress, even — that the worse-case "adverse" scenario is unlikely to occur. But they also say it can’t be ruled out.
Will regulators be getting their hands on more information than they usually have access to?
No, they won’t get any more information than usual — they just plan to scrutinize it in a more-intensive way.
How long will the stress tests take, and will banks be graded on them? What will the government do with the results?
They’re expected to be completed by the end of April. And there won’t be any grades.
The tests will help regulators decide whether individual banks need additional government money so they can meet the mission of boosting lending — a crucial component to turning around the economy.
Federal Reserve Chairman Ben Bernanke said Wednesday that if a stress test reveals that a bank needs more capital, it will have up to six months to raise it from private sources. If it fails to do that, then the government would come in with additional aid to shore up the bank’s capital cushion against potential losses.
Will results of the stress tests be released to the public?
The government says it won’t announce the results, though it expects the banks themselves to do so. Either way, the public could get an indication indirectly — from actions the Treasury takes, such as the injection of additional government money into certain banks.