There’s been a lot of talk about bank “stress” tests lately in Washington and on Wall Street.
But on Main Street, average Americans might be shrugging their shoulders and wondering what it all means.
So, just what are stress tests, anyway? The clinical definition from the Federal Reserve Board, which is administering the tests, says that they’re essentially financial fitness tests that evaluate the fiscal health of 19 key U.S. banks, including behemoths like Bank of America (Stock Quote: BOA); Wells Fargo (Stock Quote: WFC); and Citigroup (Stock Quote: C). The Treasury Department refers to stress tests as “forward-looking economic assessments”. Banks might differ on that -- some analysts imply that the stress tests are more akin to making banks dance on a hot griddle.
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Griddle or not, the federal government says it wants rigorous financial check-ups of banks before Uncle Sam decides to provide any additional bailout money to banks; the overall goal of the stress tests.
The tests are broken down into two sections: a “baseline” test and an “adverse” test. Each projects likely, or at least potential, economic environments and then examines the balance sheets of participating banks to see how they’d cope with those specific economic situations.
The baseline criteria:
• The U.S. economy falls 2%, as measured by Gross Domestic Product (GDP) in 2009, and increases by 2.1% in 2010.
• Unemployment closes at 8.4% in 20099 and grows to 8.8% in 2010.
• Housing prices fall 14% in 2009 and slide another 4% in 2010.
The adverse criteria:
• The U.S. economy falls 3.3% in 2009 and grows by 0.5% in 2010.
• Unemployment hits 8.9% in 2009 and rises to 10.3% in 2010.
• Housing prices slide 22% in 2009 and fall another 7% in 2010.
