Bureaucrats have long come up with plans that are messy in the short term and pointless in the long term. The US Treasury’s stress tests add to this history. At first, banks were told to keep schtum over their scores; the Treasury would reveal all after May 4. Now it seems banks may be releasing their own results that week.
That would guarantee a crazy five days with banks filing at different times and numbers being presented in the most flattering way or challenged outright. Worse, banks already know their results. Those that have passed will not be firing anyone for leaking. Meanwhile, rumours are flying round that Citigroup, Bank of America and a clutch of regional banks have failed and are scrambling round for capital. Shares in Citi on Tuesday fell nearly 6 per cent while those of Bank of America fell almost 10 per cent after earlier losses were mitigated by a sharp rise in consumer confidence data for April. This is no way to run a financial market. The Treasury must simply come clean now.
Investors with a longer perspective should ignore the results regardless. The white paper explaining the methodology behind the stress tests was flawed. Finger-in-the-air growth and unemployment forecasts will have little bearing on the ultimate health of the banking sector. When Japan’s asset bubble burst in 1989, real gross domestic product grew 5 per cent in 1990, then 3 per cent, and was positive for 10 out of the next 12 years. The banking sector still needed rescuing almost a full decade and a half after the first popping sound.
American banks need higher capital ratios. But getting there by shrinking assets will stunt economic growth. Even if US banks are forced to raise their tangible common equity to tangible asset ratios to 4 per cent, that is still 25 times geared, not to mention at least two percentage points lower than the average for the decade up to the meltdown last year. As ever, investors should ignore the bureaucrats and stress test balance sheets themselves.
The Lex column is now on Twitter. To receive our daily line-up and links to Lex notes via Twitter, click here