US TREASURY secretary Timothy Geithner has described stress tests of the country's 19 biggest financial institutions as offering a "reassuring" picture of a banking system capable of withstanding the recession.
The results of the tests were due to be released officially late last night but early leaks suggested that the Federal Reserve had concluded that seven of the biggest US banks need more capital but that none are insolvent.
"There are very significant cushions in these institutions today, and all Americans should be confident that these institutions are going to be viable institutions going forward. The results will be, on balance, reassuring," Mr Geithner told PBS television.
Three of the biggest banks - Bank of America, Wells Fargo and Citigroup - will together need about $54 billion but Goldman Sachs, JP Morgan Chase and Bank of New York Mellon each have enough capital to weather the economic storm.
Bank of America will need $34 billion, Wells Fargo between $13 billion and $15 billion and Citigroup $5 billion. At least seven banks were determined to need more capital and they have until June 8th to develop a detailed plan for how they will raise it.
The test results appear to be better than many analysts had predicted and bank shares rose on Wednesday before falling back yesterday.
Writing in the New York Times, Mr Geithner said the Obama administration chose to subject the banks to public stress tests to lift "the fog of uncertainty" over bank balance sheets that has slowed down the flow of credit.
"Because of concern about future losses, and the limited transparency of bank balance sheets, banks were unable to raise equity and found it difficult to borrow without government guarantees. And they were pulling back on lending to protect themselves against the possibility of a worsening recession. As a result, the economy was deprived of credit, and this caused severe damage to confidence and slowed economic activity," he wrote.
"Some might argue that this testing was overly punitive, while others might claim it could understate the potential need for additional capital."
The tests were designed to assess whether the banks needed further capital to survive a deeper recession, based on estimates of losses and loss rates across select categories of loans and resources available to absorb those losses.
The banks were tested according to two scenarios, one reflecting expectations about the current recession and the other suggesting a deeper recession than most analysts predict.
Under the first scenario, US unemployment would reach 8.8 per cent in 2010 and house prices would fall a further 14 per cent this year. The second saw unemployment rising to 10.3 per cent next year and house prices falling by 22 per cent in 2009.
The US administration has vowed that none of the 19 financial institutions tested will be allowed to fail and critics complain that the tests may have been too gentle because the government will have to make up for much of the capital shortfall it identifies.
Government officials argue that the tests were rigorous, emphasising tangible common equity, requiring the banks to have the equivalent of 4 per cent of their assets after adjusting for risk. Tangible common equity ignores intangible assets, goodwill and preferred stock, including shares issued to the US treasury.
Banks have a number of options for increasing their capital - by converting the government's debt into common stock or raising money from private investors. If they cannot raise the necessary capital, the government will provide funds from its $700 billion financial system bailout.
