All 32 of the largest US banks would stay above minimum capital requirements during a severe recession, the Federal Reserve said Wednesday, even after absorbing more than $708 billion in projected loan losses under its annual stress test.

The exercise tested whether systemically important lenders could keep credit flowing through a downturn. Aggregate capital fell just 1.6 percentage points, from 12.8% to 11.2%, leaving banks well above regulatory floors.

What the Fed Stress Test Measured

The Dodd-Frank Act requires the Fed to conduct these tests annually. Congress mandated it after the 2008 financial crisis to ensure that large banks hold sufficient capital to withstand severe economic conditions. 

The requirement covers banks with at least $100 billion in assets. This year’s pool of covered firms included JPMorgan Chase, Bank of America, Citigroup, Wells Fargo, Goldman Sachs, and Morgan Stanley.

The hypothetical scenario matched last year’s severity. It assumed unemployment would climb to 10%, that commercial real estate prices would drop by 39%, and that home prices would fall by 30%.

Economic output contracted 4.6% in the model. Equity markets dropped 58%, deepening losses on business loans.

Where the Losses Landed

Credit cards accounted for the largest share of projected losses, at roughly $200 billion. Commercial and industrial loans added about $160 billion.

Commercial real estate contributed around $75 billion. Two forces pulled capital down. Heavier loan losses from larger balances and tougher assumptions. Weaker unrealized securities gains followed smaller modeled rate declines.

Higher interest income pushed in the opposite direction. Stronger recent bank earnings and smaller modeled rate cuts lifted projected capital, more than offsetting the two drags above.

Vice Chair for Supervision Michelle Bowman framed the outcome as evidence of resilience.

“Today’s results underscore the strength of the banking system. As we work to increase the transparency and accountability of the stress test, public feedback will help us continue to improve and instill greater confidence in the stress test and its results,” Bowman stated.

The results will not change the capital requirements. Current levels hold until 2027, when revised loss models incorporating public feedback take effect.

Source: BeInCrypto