Stress tests conducted on the largest U.S. banks show they could now easily withstand a hypothetical economic meltdown even worse than the 2008 financial crisis, according to results released Wednesday by the Federal Reserve.
The Fed said the banks examined -- 30 in all and each with assets of more than $50 billion -- are better positioned today to continue lending to businesses and consumers, and to continue paying off their debts in the aftermath of severe downturn than they were five years ago.
The only bank that didn’t meet the Fed’s requirements was Zions Bancorp (ZION), though Fed officials told reporters that Zions still has time to meet the conditions through a capital plan it will release next week at the same time the other banks release their plans.
"The annual stress test is one of the Federal Reserve's most important tools to gauge the resiliency of the financial sector and to help ensure that the largest firms have strong capital positions," Fed Governor Daniel Tarullo said in a statement.
In a statement, the Fed said the biggest U.S. banks would lose $501 billion, and see their regulatory capital levels shrivel by 41%, under a hypothetical scenario devised by the central bank to see how well the financial industry would hold up to an economic crisis that would dwarf the ’08 debacle.
The hypothetical scenarios conjured up for the stress tests includes a peak unemployment rate of 11.4%, a 50% plunge in stock markets and a 25% decline in housing prices.
Global credit markets froze in late 2008 when banks found they lacked the capital to make loans and to pay down their debts as housing prices collapsed and stock markets plunged. A huge taxpayer-backed government bailout passed by Congress in 2009 was needed to keep the banking system afloat.
Banking regulators immediately began requiring banks to acquire and hold more capital to prevent a repeat of the paralysis that occurred in 2008.
The stress tests were implemented as part of the Dodd-Frank banking reform bill to determine how the newly capitalized banks -- many of them in the too-big-to-fail category -- would fare in the event of another crisis.
The Fed requires banks to have a minimum tier 1 common capital ratio of 5% during a severe economic downturn.
Zions' tier 1 capital ratio fell to 3.5% during the most severe stress scenario, below the minimum.
The Fed said the 30 banks’ aggregate tier 1 common capital ratio, which compares high-quality capital to risk-weighted assets, would fall from its 11.5% level in the third quarter of 2013 to a minimum level of 7.6% under the hypothetical stress scenario.
The post-stress number is “significantly higher” than the 30 firms’ actual tier 1 common ratio of 5.5% measured in the beginning of 2009, according to the Fed.
“Capital is important to banking organizations, the financial system, and the economy broadly because it acts as a cushion to absorb losses and helps to ensure that losses are borne by shareholders, not taxpayers,” the Fed said in its statement.
The Fed will announce next week which banks' plans to pay dividends or buy back shares were approved.