Top US banks pass Federal Reserve's annual 'stress test'

Bank regulator finds 31 large banks could weather a severe recession amid lobbying campaign against new capital requirements

The Federal Reserve building in Washington. Bloomberg

Large US banks have been found to be capable of surviving a severe recession, results from the Federal Reserve's annual “stress test” showed, amid an intense lobbying effort against regulators' proposed capital requirements.

The results from the annual Fed test showed that while these banks would suffer greater losses than seen in last year's test, they are “well positioned” to stay above minimum capital requirements in a hypothetical recession.

“The goal of our test is to help to ensure that banks have enough capital to absorb losses in a highly stressful scenario. This test shows that they do,” said Michael Barr, Fed vice chairman for supervision.

The Federal Reserve conducts a stress test every year to determine if banks are able to absorb losses during stressful periods while being able to lend to customers and meet the obligations of their creditors.

This year's test was based on a hypothetical global recession with a 40 per cent decline in commercial real estate prices, a 36 per cent decline in house prices and a sharp increase in the unemployment rate.

The Fed said three factors resulted in the larger losses. The first was “substantial increases” in banks' credit card balances and higher delinquency rates. The other two reasons are riskier portfolios and higher expenses.

The stress test showed the banks would lose a total of $685 billion, including $175 billion in credit card losses, $142 billion in business loans and about $80 billion in commercial real estate losses.

Banks faced an aggregate decline of 2.8 per cent this year, slightly larger than last year, although the Fed said this is “within the range of declines in past years”.

“This year's stress test shows that large banks have sufficient capital to withstand a highly stressful scenario and meet their minimum capital ratios,” Mr Barr said.

Charles Schwab posted the highest overall Common Equity Tier 1 (CET1) ratio at 25.2 per cent.

CET1 is the “highest quality of regulatory capital” because it immediately absorbs losses when they occur, according to the Bank For International Settlements.

JPMorgan's CET1 would dip from 15 per cent to 12.5 per cent. Goldman Sachs's ratio would fall from 14.4 per cent to 8.5 per cent, while Wells Fargo would drop from 11.4 per cent to 8.1 per cent.

Wednesday's results come as the largest banks in the US push back against a plan that would substantially raise their capital levels.

Fed chairman Jerome Powell and Mr Barr told legislators they expect to make “broad and material changes” to the proposed requirements, after the regulator received a significant amount of negative feedback during the comment window.