So BofA and Citibank don't like the "stress tests"....
Regulators have told Bank of America Corp. and Citigroup Inc. that the banks may need to raise more capital based on early results of the government's so-called stress tests of lenders, according to people familiar with the situation.
The capital shortfall amounts to billions of dollars at Bank of America, based in Charlotte, N.C., people familiar with the bank said.
Executives at both banks are objecting to the preliminary findings, which emerged from the government's scrutiny of 19 large financial institutions. The two banks are planning to respond with detailed rebuttals, these people said, with Bank of America's appeal expected by Tuesday.
Yeah, but the real question is what this means about their recent "profit" reports!
If anyone believed that this was anything other than balance-sheet games, here's your answer.
Now here's the bigger issue: The "stress" levels propounded have already been assured, and there is no way they're a "worst case" scenario!
The entire problem is this position:
Federal officials say they won't allow any of the top 19 banks to fail.
This is exactly backward.
Every one of these firms should be told that if their capital ratios, using market prices for every asset held, including those "Level 3" and "Level 2" things, fall under regulatory minimum it will result in instantaneous seizure and cramdown.
Investors, including debtholders, should be the ones to bear this cost and risk. Why? Because this is the only way, going forward, to provide that market discipline will be enforced, and that is the only way to keep businesses - including banks - honest.
The public should be told this straight up as well.
Why?
Because if we do not take this approach The FDIC does not have the money to pay people if the downturn gets out of hand.
Just one major failure that occurs after the government tries to "sweep it under the rug" would result in an immediate destruction of the FDIC's capital.
The FDIC must be able to pay depositors. If they ever fail in that duty (and Congress is unable or unwilling to back them up) the shotguns will immediately come out.
THAT is systemic risk, not whether a bunch of rich people will whine and whether those who made imprudent investments will suffer a loss.
Before we say that we can't impose these losses on bond and stockholders, let's be clear how this works in a real bank.
Let's say you open a bank and have no "seed" capital (no high-powered money); we'll keep it simple.
You take in $100 in deposits from Jack.
You then lend $90 (10% reserve) to Jane. Jane buys a car with the money.
The bank has a $100 debt to Jack, but only $10 in the till. This is the "the bank is always insolvent!" claim.
However, if the bank has made prudent loans, this is a false argument. The bank owns Jane's title to her vehicle with the promissory note attached.
If Jack demands his money, the bank can sell Jane's note to someone and pay Jack.
Provided the bank only makes good, marketable loans there is never a problem. The bank is not broke; it would be driven out of business by such a "run", but nobody loses money.
The problem comes in when the bank starts making bad loans. If the bank loans Jane $90 but the note they get back only is worth $10 in reality, then there is a major problem because that loan is unsecured!
The lack of security in a bank's portfolio of loans is entirely at the bank's discretion. No bank is required to make unsecured loans, and no bank should be able to have outstanding unsecured loans in an amount that exceed its excess capital.
So long as regulators do their job this situation never exists and the bank is never insolvent. Bluntly, the bondholders are never at risk provided that prudent regulatory standards are consistently applied.
The problem is that as of here and now, today, neither I or anyone else can determine to what degree prudence has been cast aside in return for bribes, er, "campaign donations."
The truth must be known about the soundness of our banking system, and it is not possible to determine those facts without regulators forcing into the open the credit quality, collateral levels and market prices for every asset these banks hold.
If this process causes a bank to actually be insolvent - that is, if you were to unwind every transaction, right here and now, we would not wind up with everyone receiving 100 cents on the dollar, from depositors to the lowest class of bondholder and preferred stockholder - then that bank must be closed right now as its "Tier 1 Capital Ratio" that is being claimed IS A LIE and that bank's management has, with the active complicity of the regulators, committed fraud.
That's the essence of the problem folks, and until every man, woman and child in America understands what is really going on here and puts a stop to it - that is, willful blindness in the regulatory structure of our nation - we will not exit this economic downturn.
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