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Marketplace Scratch Pad

The banks and jobs

Scott Jagow Apr 22, 2009

What it really boils down to for the banks is — how many people in this country are out of work? The banks’ health is inextricably linked to the unemployment rate, as explained by
FBR Capital analyst Paul Miller in a report today. Also, one of the banks actually admitted to using new accounting rules to alter the books.

Let me start with the unemployment thing. People out of work stop paying their debt, like mortgages and credit cards. Obviously, the banks can only handle a certain level of non-payment before they need more capital.

FBR did its own stress tests on several banks and found that if unemployment, which is now at 8.5%, peaks at around 10%, the banks will be fine. But…

At 12% unemployment, FBR’s stress test found that the level of most large banks’ tangible common equity – the most conservative measure of banks’ capital – falls below 3% of their risk-weighed assets and, in some cases, is exhausted completely. Three percent is seen as a minimum acceptable level of tangible common equity, and the government has indicated they will require banks to maintain that level.

In other words, at 12%, most banks would need more money from somewhere.
Most economists think the jobless rate will peak between 10 and 12%, but if it goes higher, say to 14%, the banks will essentially be insolvent. The Treasury’s stress test “adverse” scenario has it peaking just above 10%, so keep that in mind when those results come out.

Also today, Wells Fargo reported a 1st quarter profit of $3 billion, as expected. When Wells gave its profit forecast a couple weeks ago, I questioned how much of the profit was due to revaluing assets on the books under relaxed rules from the Financial Accounting Standards Board:

Did Wells use the new relaxed accounting rules to make the books look better? I guarantee you they did. Banks now have much more latitude in determining the value of “toxic” assets…

But if the mark-to-market rules hadn’t been changed, I wonder whether Wells would really smell this rosy.

Well, we now have the answer. Clusterstock points out a paragraph in today’s report from Wells:

The net unrealized loss on securities available for sale declined to $4.7 billion at March 31, 2009, from $9.9 billion at December 31, 2008. Approximately $850 million of the improvement was due to declining interest rates and narrower credit spreads.
The remainder was due to the early adoption of FAS FSP 157-4, which clarified the use of trading prices in determining fair value for distressed securities in illiquid markets, thus moderating the need to use excessively distressed prices in valuing these securities in illiquid markets as we had done in prior periods.

That means there was a $4.4. billion difference to the plus side, solely based on the change in mark-to-market accounting. And as I said, Wells made $3 billion, net.

At least Wells acknowledges using the new accounting rules.

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