The latest round of stress tests by U.S. regulators finds that the biggest U.S. banks have all bolstered their capital positions enough to withstand a severe economic downturn.
In the “severely adverse” scenario tested by the U.S. Federal Reserve Board, the aggregate tier 1 common capital ratio of the 31 largest U.S. banks would fall from its current level of about 11.9% to 8.2%, the U.S. central bank reports. The Fed notes that this hypothetical post-stress capital level is significantly higher than the 5.5% level that banks reached in early 2009 in the immediate aftermath of the financial crisis and the ensuing recession.
The Fed says that the largest U.S.-based banks “continue to build their capital levels and to strengthen their ability to lend to households and businesses during a period marked by severe recession and financial market volatility.”
The severe scenario tested by the Fed features a deep recession, with the unemployment rate reaching 10%; a home price decline of 25%; a stock market drop of nearly 60%; and a notable rise in market volatility. In such a scenario, the Fed projects that loan losses at the 31 participating banks would total US$340 billion but the banks have now built up their capital levels to withstand such a loss.
“Higher capital levels at large banks increase the resiliency of our financial system,” said Daniel Tarullo, governor at the Fed. “Our supervisory stress tests are designed to ensure that these banks have enough capital that they could continue to lend to American businesses and households even in a severe economic downturn.”
Next week, the Fed will release the results of its latest annual exercise to evaluate the capital planning processes and capital adequacy of large financial institutions.