More on the Stress Test

As the only blogger that had anything close to unequivocally favorable to say about the stress tests, I did manage to get a few hits, but not many.  I suppose people are just sick to death of yesterday's news.

There is no upside in saying anything favorable and to appear to take it seriously is to risk seeming hopelessly naive.

However, I think betting against the Fed/Treasury is a bit naive.  

The way to read it is to start backwards.  Total 2 year losses of $600 billion.  Together with the $400 or so that have already been booked, thats $1 trillion.  If these financial institutions have 1/3 of the assets exposed to the "crisis" -- that would put the total at $3 trillion.  Or big enough to be in the range of plausibility.

The next step is looking at how the $600 is going to be "funded."  I already went through this in the last post, and it seems reasonable.  

I read a bit of the RGE monitor (Roubini) and he is heavily invested in his scheme to do a "good bank/bad bank" reorganization.  Not a bad idea, but I have a feeling that he simply doesn't understand banks.

In fact, most of the disagreements seem to be people who equate banks with New York investment banks and see the rest of the financial sector as simply an appendage of New York.  I tend to see New York and investment banking as a separate business.  A lot of it could disappear with no consequence.  It already has.  The flip side is that the majority of abuses were associated with investment banking and they managed to almost blow up the world financial system.  

Investment banks don't make normal loans.  The only stand alone investment banks are GS and MS.  they have a lot of exposure to securities but not much to loans.  They don't do credit cards.  They don't deal with retail lending customers.  They did facilitate a lot of lending, but no one wants to buy these sorts of products anymore.  The so called originate to distribute model.  

As far as banks that make loans -- they seem to be making them.  I am at a loss regarding whether they should lend more or tighten standards, but they seem to be doing about the right thing.  That is, no more really stupid loans.  They do seem pretty aggressive about loaning to people that can pay them back -- but those people don't especially want to borrow.  

The general playbook of the Treasury/Fed is to subsidize interest rates and force people to either accept zero returns or start taking some risk.  This is all they can do and they are doing it in every way imaginable.  It is also directionally right as a policy move.  In fact, you have fiscal stimulus via deficit spending to go with the liberal monetary policies.  

That is the right thing to do directionally, and they seem to be doing a lot of it, which is, for lack of a better word, good.