As Treasury Mulls TARP Payback, Congressional Panel Asks For More Stress Tests
It seems that no one can agree on the issue of letting the big U.S. banks off the government hook.
As the Treasury Department prepares to allow 10 banks to pay back Troubled Asset Relief Program funds as early as later today, some are arguing that the government stress tests ought to be carried out all over again.
Of the 19 largest U.S. banks tested in May, 10 were told that they needed to fatten their cushions by a combined $74.6 billion. Now that the requisite capital-raising rounds have been completed, some of those banks are expected to be let out of the grip of government bailout funds.
Early payback of the funds is something big banks desperately want. Rules attached to the TARP funds have constrained banks in numerous ways this year, not least in setting their own parameters for management compensation packages. Those moves have forced an exodus of top bankers from the U.S. largest financial institutions.
But as Treasury mulls the possible release of the institutions from its claws (a group expected to comprise Morgan Stanley, Goldman Sachs, and JP Morgan), the congressionally-appointed panel overseeing the TARP this morning recommended running the stress tests again.
The panel’s arguments range from the threat of the still-growing 9.4 percent U.S. unemployment rate, to whether the banks will actually be able to meet their obligations in two years time. Apparently, the model used by Treasury is assessing the health of the banks in May stretched for up to 2 years, while many commercial mortgages are coming up in 2011, 2012 and 2013.
“The fact that the holding companies have added certain amounts of capital on certain assumptions does not mean the financial crisis is over or that the holding companies are now free from the risk of the sort of crisis-laden conditions,” of this year and last, the panel said in a report due to be presented to the Joint Economic Committee of Congress later today.
The Risks of Ignoring the Panel
While arguments for and against further testing are complicated, the risks of ignoring the panel are probably too big take right now.
The chief problem with allowing the banks to pay back TARP funds so early without submitting them to further stress testing is that Treasury puts itself in a position in which it should never be: appeasing investors.
While premature payback of the funds would certainly be great news for shares in financial institutions (and most probably, earnings too), it can’t be forgotten that the panel overseeing TARP funds is the one responsible for getting banks back into a reasonable state of health.
Just because market conditions have been strong lately, and have thus allowed the banks to raise the additional funds they need to make early payments on their bailout funds, that doesn’t mean it’s not a risk to let them do so. It is. Another potential side-effect of allowing some, but not all, banks to repay funds early is that a two-tiered banking structure is created. In that case, weaker banks which have not been allowed to repay TARP funds may create a drag on the sector as a whole.
Pre-empting economic health by judging it on the overall state of risk appetite is exactly the sort of strategy which led to the government having to provide the banks with the necessary funds to stay liquid in the first place.
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Daniel M. Harrison has written for the Wall Street Journal, Dow Jones Newswires, and Forbes.com. In 2007, he initiated Asian market coverage for TheStreet.com; he's also served as Opening Bell editor at Dealbreaker.com and writes The Global Perspective blog.
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