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COVID-19

The Fed says big banks have passed their COVID-era stress tests

Nancy Marshall-Genzer Jun 25, 2020
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The Federal Reserve Building in Washington, D.C. The stress test the Fed created this year envisioned 10% unemployment. The current rate is 14%. Chip Somodevilla/Getty Images
COVID-19

The Fed says big banks have passed their COVID-era stress tests

Nancy Marshall-Genzer Jun 25, 2020
Heard on:
The Federal Reserve Building in Washington, D.C. The stress test the Fed created this year envisioned 10% unemployment. The current rate is 14%. Chip Somodevilla/Getty Images
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The Federal Reserve said Thursday that banks are “sufficiently capitalized” and have passed their stress tests. These tests look at how the nation’s biggest banks would weather tough economic times — kind of like what we’re living through right now. The Fed also said it is putting a stop to share buybacks by banks, but it will allow banks to continue paying limited dividends.

The stress tests started in 2013 after the financial crisis so the Fed could keep better tabs on the health of banks. The Fed wants to know how banks would handle a jump in unemployment or a drop in economic output.

“This was a way for the bank to do an annual checkup the way we would go to a physician,” said Danielle DiMartino Booth, a former Fed adviser who now heads Quill Intelligence. “[It’s to] see how strong the bank’s balance sheets would be under certain types of scenarios of differing levels of stress.”

Balance sheets are one of a bank’s vital signs. It’s basically a list of its assets, like loans it’s made, and liabilities, deposits from customers who expect their money to be there if they need it. The bank does the stress test under Fed supervision.

“It’s a very time-consuming process because you’ve got to figure out how every single asset and liability is likely to be affected by this scenario,” said Kathryn Dominguez, an economist at the University of Michigan.

The Fed dreams up a different scenario for each year’s stress test. It created this year’s version back in February. It imagined an unemployment rate of 10%. Then the pandemic hit the United States.

“The unemployment rate has already gone over 14%, which is 4 percentage points higher than the assumed worst point in the stress test,” said Stephen Cecchetti, an economist at the Brandeis International Business School.

And gross domestic product is expected to fall more than the Fed imagined back in February. So the Fed created an extra test, looking at how banks would weather a sluggish recovery, a double dip recession or a quick return to normal.

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