This exercise was supposed to build confidence in the system

From the Economist's View:

"Bank Regulators Clash Over Endgame"

The bank stress tests are nearly complete, and there's apparently a debate over what to do with the stress test information on individual banks. Shouldn't Geithner have known what they were going to do with the stress test information before announcing the program in February? Or maybe figured out what those plans were over the last two months as they've been conducting the tests? Did they have plans and then realize they hadn't fully thought them through? Didn't we learn the dangers of going to battle without thinking carefully about the endgame and planning accordingly?

This exercise was supposed to build confidence in the system, but that doesn't happen when you put a policy in place before thinking it through thoroughly. Instead of testing banks, it's ending up as a test of Geithner's credibility as a policymaker, and instead of building confidence, it threatens to undermine it:

Bank Regulators Clash Over Endgame of U.S. Bank Stress Tests, by Robert Schmidt, Bloomberg: The U.S. Treasury and financial regulators are clashing with each other over how to disclose results from the stress tests of 19 U.S. banks, with some officials concerned at potential damage to weaker institutions.

With a May 4 deadline approaching, there is no set plan for how much information to release, how to categorize the results or who should make the announcements... While the Office of the Comptroller of the Currency and other regulators want few details about the assessments to be publicized, the Treasury is pushing for broader disclosure.

The disarray highlights what threatens to be a lose-lose situation for Treasury Secretary Timothy Geithner: If all the banks pass, the tests’ credibility will be questioned, and if some banks get failing grades and are forced to accept more government capital and oversight, they may be punished by investors and customers. ...

Fed officials have pushed for the release of a white paper laying out the methodology of the assessments in an effort to bolster their credibility. ... A statement on the methods is scheduled for release April 24. ... The 19 companies may get preliminary results as soon as April 24, a person briefed on the matter said.

Regulators, all of which regularly administer exams to the lenders they oversee, have privately expressed concern about the tests and whether they will be effective, the two people said.

While weaker banks deemed to need additional capital will be given six months to raise it, financial markets may have little more than six minutes of patience before punishing them if the information is publicly released, one official said.

Geithner has said he crafted the stress test program in an effort to provide more transparency about the health of banks’ balance sheets. ... How the market handles the results is a chief worry of banks and regulators... Banking lawyers and industry officials said that the Treasury needs to be very clear with the public about the reviews, which by their design test events that may not happen. ...

Posted by Mark Thoma"

Me:

“Will applications filed by QFIs or the names of applying QFIs be released publicly?

No. Treasury will not release the names of QFIs who apply for the CAP or those which
are not approved. Treasury will publish electronic reports detailing any completed
transactions, including the name of the QFI and the amount of the investment, as required
by the Emergency Economic Stabilization Act of 2008, within 48 hours of the
investment.”

And:

“What if a QFI needs capital in excess of the investment limit referred to above?
An institution that needs capital in excess of the investment limit referred to above is
deemed as needing “exceptional assistance.” In consultation with the appropriate Federal
banking agency, Treasury will determine whether an institution qualifies for “exceptional
assistance” on a case-by-case basis.
What will be the terms of transactions involving QFIs in need of exceptional
assistance?
QFIs falling under the “exceptional assistance” standard may have bank-specific
negotiated agreements with the Treasury Department.”

That's from CAP. In other words, the whole point was to assure that these banks would be carefully examined for problems, and then made whole or solvent. What we were supposed to hear in public was the amount of assistance, which could vary with the size and particular needs of each bank. The program was meant to instill confidence by assuring the necessary backing for solvency.

Now, just looking at the program as presented, it's asinine to announce who's in what shape. That would negate the point of issuing the blanket guarantee of solvency.

What's happened is that popular perception has latched onto the idea of "stress tests" being a test for who gets seized or something like that. But, think about it: Even if the govt was going to do that, they wouldn't tell us beforehand.

The program was meant to erase a stigma, not produce one. For one thing, we own a lot of Citi, which is trying to sell its assets. It will hardly make selling those assets easier if we announce exactly what they're getting and why.

Now, if you don't want the govt to help these banks, I can understand pissing on this arrangement. But if you do, why would you want to make the banks less able to do business than more?

Finally, unless we seize the banks in an FDIC sort of way, we are going to be left with a hybrid. In other words, if we simply own stock and have someone manage the bank for us until we sell it, that will still be a hybrid plan because the bank will be a private company with certain fiduciary responsibilities to all its shareholders. It's probably a better idea than CAP, but it has lots of risks, such as:
1) It's one thing for a private company to default, another for a govt to default. If we own it, foreign investors and countries expect us to guarantee it. That's why it could lose us a lot of money. We could just screw them, but that will have negative consequences.
2) We will involve ourselves in foreign politics. For example, we needed a retroactive govt law from Mexico to be able to take more than a 10% stake in Citi. That was popular with some people, while not for others. As well, selling Banamex could have currency issues. All of Citi's foreign holdings will involve a similar problem.
3) All other hybrid problems, like conflict of interest, will remain. After all, Geithner is not even from Wall Street, and he's being accused of collusion.

It is true that we can announce every detail of these tests, and that might be what happens. But it could well end up costing us a lot more money if the market and potential investors or buyers hold out for more money. I thought that we were trying to save money.

I'm no fan of this plan, but I'm also not a fan of us shooting ourselves in the foot over and over again. We're in a damnable mess, and there's no clean or easy way out. We've lots of bad choices to choose from. That's it.

I posted this on Yves Smith. The plan was not to show that some banks were in bad shape. That was the opposite of the plan. It's simply that public opinion is not with them on this plan, and is demanding some kind of accounting, as are some investors. However, again, the whole point of CAP was to make the banks solvent. Period.

Posted by: Don the libertarian Democrat