Ron Paul Liberty Report
  • Home
  • Archives
  • About

Bank Stress Tests Are A Dog & Pony Show

7/17/2015

 
Picture
By Paul-Martin Foss

In the aftermath of the financial crisis, central banks around the world began to subject their banking systems to “stress tests” – creating hypothetical worst-case scenarios and analyzing whether or not banks were capable of remaining in operation under those hypothetical conditions. The central banks would then publicize the results of the stress tests and announce which banks had passed and which still needed to raise capital. As Matthew Klein at the Financial Times Alphaville blog pointed out, as late as October 2014 the European Central Bank conducted stress tests of Greece’s four largest banks and declared three of them adequately capitalized, with the fourth one not too far off. Yet as the Greek crisis has demonstrated, passing that stress test was absolutely meaningless, as all Greek banks are now close to failure. So what good are bank stress tests?

Klein points out that one of the likely assumptions in these stress tests is that under adverse economic conditions, banks will still have access to funding from the central bank. Remove that lifeline and the likelihood of a bank failing increases exponentially. That of course leads one to wonder, what kind of assumptions does the US Federal Reserve make when it undertakes its bank stress tests?

Not surprisingly, the “most transparent central bank in the world” just a couple of weeks ago announced that its stress test models would not be made public. While the Fed’s explanation was that publishing its models would allow banks to game the system, one has to wonder if perhaps the models are not nearly as robust and realistic as they should be. If we now know that the ECB’s stress tests of Greek banks were absolutely worthless, why then should we trust the Federal Reserve’s stress tests any more?

We can only conclude that the stress tests have two purposes: 1.) to reassure the public that the banking system is safe and sound so that depositors will continue to deposit their money; and 2.) to punish any banks who fall afoul of the Fed for any reason by giving them a negative assessment after a stress test, thus tarnishing their reputation in the public eye. The former is probably more important than the latter, as the overall health of the banking system depends on the existence of deposits. Without money deposited in banks, banks cannot lend and make money. Thus, ensuring that depositors don’t flee the system is one of the primary aims of central banks and banking regulators.

Bank stress tests then are really nothing more than a dog and pony show, especially if the stress test models aren’t being made public so that their relevance (or lack thereof) can be ascertained. Rather than serving as any sort of benchmark or indicator of the health and strength of the banking system, they are yet another tool that the Federal Reserve uses to “manage expectations” – to manipulate people into believing that banks are safer and sounder than they actually are. The citizenry will faithfully continue to deposit their money into bank accounts, not once doing due diligence to see just how sound their banks actually are. And the whole rotten system will continue to lurch from crisis to crisis until its final collapse.



The above article originally appeared at The Carl Menger Center



Comments are closed.

    RSS Feed

    Archives

    May 2025
    April 2025
    March 2025
    February 2025
    January 2025
    December 2024
    November 2024
    October 2024
    September 2024
    August 2024
    July 2024
    June 2024
    May 2024
    April 2024
    March 2024
    February 2024
    January 2024
    December 2023
    November 2023
    October 2023
    September 2023
    August 2023
    July 2023
    June 2023
    May 2023
    April 2023
    March 2023
    February 2023
    January 2023
    December 2022
    November 2022
    October 2022
    September 2022
    August 2022
    July 2022
    June 2022
    May 2022
    April 2022
    March 2022
    February 2022
    January 2022
    December 2021
    November 2021
    October 2021
    September 2021
    August 2021
    July 2021
    June 2021
    May 2021
    April 2021
    March 2021
    February 2021
    January 2021
    December 2020
    November 2020
    October 2020
    September 2020
    August 2020
    July 2020
    June 2020
    May 2020
    April 2020
    March 2020
    February 2020
    January 2020
    December 2019
    November 2019
    October 2019
    September 2019
    August 2019
    July 2019
    June 2019
    May 2019
    April 2019
    March 2019
    February 2019
    January 2019
    December 2018
    November 2018
    October 2018
    September 2018
    August 2018
    July 2018
    June 2018
    May 2018
    April 2018
    March 2018
    February 2018
    January 2018
    December 2017
    November 2017
    October 2017
    September 2017
    August 2017
    July 2017
    June 2017
    May 2017
    April 2017
    March 2017
    February 2017
    January 2017
    December 2016
    November 2016
    October 2016
    September 2016
    August 2016
    July 2016
    June 2016
    May 2016
    April 2016
    March 2016
    February 2016
    January 2016
    December 2015
    November 2015
    October 2015
    September 2015
    August 2015
    July 2015



  • Home
  • Archives
  • About