The Congressional oversight panel monitoring the government’s bank bailouts is recommending regulators repeat “stress tests” of financial firms if the current recession deepens.

In a draft of a new report to Congress obtained by FOX Business, the oversight panel for the Troubled Asset Relief Program, or TARP, noted that the unemployment rate has averaged 8.5% for the first five months of 2009, with the rate hitting 9.4% in May. In the stress tests, the panel noted, bank supervisors assumed unemployment for the entire 12 months of 2009 would average 8.9%.

“We recommend that Treasury publicly track the status of its stress test macro-economic assumptions [including unemployment forecasts]… and repeat the stress test if the adverse scenario assumptions have been exceeded,” the panel said in the draft report.

• READ Draft of the Congressional Oversight Panel's Report

The panel will release the final version of its report Tuesday morning. The panel’s chair, Harvard Law School professor Elizabeth Warren, will testify on it Tuesday before Congress’s Joint Economic Committee. A panel spokesperson said its five members unanimously approved the draft Monday. 

In May, the Federal Reserve and other regulators completed the stress-test exams of the nation’s 19 largest financial institutions, those with assets of more than $100 billion. Supervisors ordered 10 firms to raise an additional $75 billion in “buffer” capital to protect them against potential financial problems through 2010. The 10 banks submitted their capital plans to the Fed on Monday. The central bank did not disclose details, but most of the firms have already raised additional capital or announced their plans to do so.

In the draft report, the panel disclosed it hired two prominent university researchers to review the structure and methodology of the stress test, formally known as the Supervisory Capital Assessment Program, or SCAP: Eric Talley of University of California-Berkeley School of Law, where he is co-director of the Berkeley Center for Law, Business, and the Economy; and Johan Walden, a professor Berkeley’s Haas School of Business. Talley is also a visiting professor at Harvard Law School.

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In a special study for the panel included in the draft report, Talley and Walden gave the stress test generally favorable marks.  

“We conclude that the Federal Reserve Board’s risk modeling approach is, on the whole, a reasonable one, erring for the most part on the conservative side,” they wrote to the panel.  “Given the enormity of the task, the degree of ambient uncertainty in the economy, the new presidential administration, and the need to act expeditiously, the Fed has assembled an approach in SCAP that provides helpful information about the prospective risks faced by bank holding companies [BHCs], and a constructive prescriptive means for addressing those risks.”

Still, the researchers raised concerns about the program’s transparency and lack of data disclosure, which they said could limit checks of the test by outside researchers.

“Without this information, it is not possible for anyone to replicate the tests to determine how robust they are or to vary the assumptions to see whether different projections might yield very different results,” the panel says. “There are key questions surrounding how the calculations were tailored for each institution and questions about the quality of the self-reported data.”  

In its draft, the panel endorsed its researchers’ qualified support for the test -- “the short-term effect of the stress tests was positive, and the financial markets have calmed to some extent,” panel members said -- as well as Talley’s and Walden’s call for more transparency and disclosure.    

Separately, the panel recommended that the stress tests “be a regular feature of the 19 BHC examination cycle so long as an appreciable amount of toxic assets remain on their books, economic conditions do not substantially improve, or both.” 

Indeed, that view has been backed up elsewhere. In a Monday speech, Federal Reserve Board Governor Daniel Tarullo endorsed the broader use of stress tests -- or something resembling them -- saying that “use of a uniform set of supervisory stress parameters facilitated more precise identification of institution-specific strengths and weaknesses in both risk and risk-management capacities. Although the SCAP was an unprecedented exercise in an unprecedented situation, some lessons learned from our conduct of the exercise will be incorporated into more routine supervisory practice.”

In addition, the panel said, “between supervisory stress tests, the BHCs should be required to run the stress tests themselves, according to supervisory guidance, and to submit the results as part of their ongoing supervisory examinations.” 

The draft report disclosed that Warren sent a letter on May 11 to Fed Chairman Ben Bernanke “to request certain documents and information related to the SCAP and to arrange a series of meeting to discuss SCAP….Negotiations regarding the production of the requested materials are ongoing.”

In addition, the panel discloses in its draft report that:

• It estimates the Treasury has $54 billion in uncommitted TARP funds, though the Treasury is expected to announce this morning it has approved several banks to repay up to $50 billion in TARP assistance. The panel also noted, however, that the department may have to repay up to $50.5 billion to a special Treasury fund used for currency exchanges, the Exchange Stabilization Fund [ESF], which it tapped in September to backstop money market mutual funds against financial challenges and rapid customer redemptions. The panel disclosed that in May, it sent a letter to the department requesting information to assess the status of the money market support program and any Treasury liabilities to the ESF stemming from it. 
• Treasury notified the panel that it had received $6.2 billion in dividend payments from banks on TARP investments as of June 3.
• It has invited Treasury Secretary Timothy Geithner to testify before the panel at a hearing on June 17. A panel spokesperson said Monday that the department was working on a date for Geithner’s appearance; he testified before the panel for the first time in April. 
• It is reviewing a recent controversy over Bank of America’s purchase of Merrill Lynch, which closed on Jan. 1. As part of an investigation into the acquisition, BofA CEO Ken Lewis testified to the New York Attorney General in February that when he had second thoughts about proceeding with the acquisition because of Merrill’s deteriorating financial condition, he said he felt that then-Treasury Secretary Henry Paulson and Bernanke pressured him to keep silent and complete the deal. Bernanke and Paulson have denied the allegations.  “The fact and nature of the discussions among the Treasury, the Board, and BofA -- whatever their exact content -- were disclosed neither to the shareholders of BofA nor to the public, whose tax dollars the TARP spends,” Warren wrote in a letter to Bernanke and Geithner in May requesting their thoughts on the matter. “This interaction among Treasury, the Board, and BofA is a warning of the dangers that can arise when the government acts simultaneously as regulator, lender of last resort, and shareholder. (Treasury had purchased $15 billion in convertible preferred stock and warrants of BofA on Oct. 28; as indicated above, it purchased an additional $20 billion of BofA preferred stock and warrants on Jan. 16.) The TARP by its very nature creates conflicts of interest for Treasury and the Board.”