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Fallout: The Financial Crisis

Difficulty in diagnosing health of banks

Steve Henn Feb 19, 2009
Fallout: The Financial Crisis

Difficulty in diagnosing health of banks

Steve Henn Feb 19, 2009


Tess Vigeland: Before they can get more bailout money from the federal government, banks are going to have to go through what Treasury Secretary Tim Geithner is calling a “stress test.” They’ll have to open up their books to regulators who will evaluate what kind of shape they’re in. But dozens of banking regulators are always stationed full-time inside the country’s biggest banks. So if they didn’t catch the problems before — How are they going do it this time? And how much might that effort cost? Here’s Marketplace’s Steve Henn.

STEVE HENN: The health of the nation’s banks shouldn’t be difficult to diagnose. Every three months, bank executives file federal reports that list a bank’s capitol — its assets, and which loans are past due or likely to default.

But there’s a hitch. Most of banking experts, like Bert Ely, don’t believe these reports are reliable.

BERT Ely: The numbers are not bogus, but in a troubled bank situation you have to discount them heavily.

In the last two years, the Federal Deposit Insurance Corporation has taken over 38 banks. And after the takeovers, Ely says the FDIC discovered these banks overstated the value of their assets on federal reports by more than $20 billion.

John Hawke is the former comptroller of the currency. In the 1990s he was one of the top bank regulators in the country. And he says if regulators don’t question the true value of assets listed on thee reports — they can end up in big trouble.

JOHN HAWKE: Unless they know what the real value of a bank’s capitol is, they are essentially living in a fool’s paradise where they believe the stated values on a bank’s books represent the real values.

And Hawke says accounting rules let bank manager’s paper over their problems. They can book the value of loans differently depending on what they say they’re going to do with them.

If a bank says it intends to sell its loans, it has to value those loans at market prices. In some cases that could be half the loan’s original value. But if a bank says it ‘s going to hold the same loan to maturity, it can book that loan at 100 percent of its value – even if that loan is obviously failing. And that’s the trouble, according to Ely.

ELY: Banks and thrifts fill these reports out, they file them with the regulator. They get released very quickly online and you essentially have to take the institutions’ word that it’s correct.

But unlike Ely, bank regulators don’t have to take anyone’s word for it. Legally they can dig deep into a bank’s books. But Bill Black’s a former banking regulator and whistleblower says staff cuts over the past decade have meant fewer fines and less rigorous bank exams.

BILL BLACK: The cuts were very substantial and they are worse than the numbers would indicate.

Black says the most experienced bank examiners were pushed out — even as the FBI announced that the nation was facing an epidemic of mortgage fraud.

Today FDIC is going on a hiring binge. But not bank examiners, says Black. It’s hiring experts in bank liquidation. And Black believes right now no one in Washington really knows how big the problems really are in the nation’s more than 8,000 commercial banks.

Black: The Secretary of the Treasury is saying its going to be over a trillion dollars, more likely in the range of $2 trillion to fix the bad asset problem.

But on their reports every federally regulated bank in American claims it has assets that are worth more than its debts.

BLACK: So there is a two trillion dollar gap.

And Black says if bank regulators do stress tests — try to figure out what will happen to banks’ books if the economy continues to collapse — they’ll see that $2 trillion gap get even bigger.

I’m Steve Henn for Marketplace.

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