Welcome to the post, post-Lehman era.
Earlier this week, the nation’s largest banks reported the results of self-administered stress tests. The results do not hold as much significance as the ones administered later this year by the Federal Reserve, but they were notable. For the first time since the financial crisis, the stress tests showed that, at a number of banks, a key measure of readiness for the next crisis had dropped.
Citigroup (C), for instance, said its tier one capital ratio—the amount of money a bank has on hand to cover loan and investment losses—would drop to 8.4% in another severe downturn. That’s down from 9.1% a year ago. At Morgan Stanley (MS), capital levels could fall to 8.9%, down from 9.5% a year ago. Wells Fargo (WFC) dipped to 9.6% from 9.9%. And JPMorgan Chase (JPM) said it would have enough capital after a stress scenario to cover losses on 8.4% of its remaining risky assets, down from 8.5% a year ago.
Goldman Sachs (GS) was the only bank that came out looking better than it did last year, 10.4% versus 8.9%. Bank of America’s (BAC) results were the same as they were last year.
The drops are relatively small. And the banks are still far more prepared for a downturn than they were before the last recession. But the banks have spent much of the past six years socking away extra cash to make them look as safe as possible. Now, the pendulum is swinging back.
But there were signs of that already. About a month ago, the FDIC reported that, as of mid-year, banks had boosted lending by nearly $400 billion in the past 12 months, the biggest jump since late 2008. Also, at the end of the second quarter, JPMorgan reported that it was taking increased risk on its trading desk. It appeared to be one of the few banks to do so. But the others are likely to follow. The banks will report new risk numbers a few weeks from now, along with their earnings reports.
Already, some regulators are getting nervous. Bank regulators have warned a number of banks about a return to risky lending. And the Fed is contemplating new rules that would require the big banks to continue to add to their capital piles.
Remember, though, all of this renewed risk is good for the economy. While the Fed is telling banks not to take too much risk, its low interest rate policy is intended to get banks to lend more and, well, take more risk. And the fact that banks are lending more means the Fed’s efforts have been, at least partly, a success.
Regulators and the rest of us should not want the risk-taking pendulum to swing in just one direction. The question is whether the rules passed in the wake of the financial crisis will stop it from swinging too far back in the wrong direction.