There’s Nothing Wrong With Regulators Negotiating

The fact that the banks negotiated with the regulators over the results of the stress tests is likely to incite considerable negative discussion this weekend. Don’t get too carried away with what you read.

First, here is part of what the WSJ is reporting:

The Federal Reserve significantly scaled back the size of the capital hole facing some of the nation’s biggest banks shortly before concluding its stress tests, following two weeks of intense bargaining.

In addition, according to bank and government officials, the Fed used a different measurement of bank-capital levels than analysts and investors had been expecting, resulting in much smaller capital deficits.

The overall reaction to the stress tests, announced Thursday, has been generally positive. But the haggling between the government and the banks shows the sometimes-tense nature of the negotiations that occurred before the final results were made public.

Government officials defended their handling of the stress tests, saying they were responsive to industry feedback while maintaining the tests’ rigor.

The article goes on to report on some of the differences. Citibank for instance was originally told it needed $35 billion of extra capital but that, as you know, was scaled back to $5.5 billion. BofA’s needs were scaled back from over $50 billion to $33.9 billion. At the same time, some banks ended up with a bigger hole to fill at the end of the day.

Evidently, there was a lot of negotiating particularly with regard to future earnings capacity and credit for asset sales, either pending or planned. That is as it should be.

I spent over 20 years in banking and have been through this process more times than I care to remember. In my case, it was always a negotiation over credit to a specific company. The examiners would make their annual visit to the bank, go over the loan portfolios and in the case of larger exposures drill down to the specific credit rather than sampling portfolios. Once they completed their review, they would turn over their findings to the bank for review and comment.

That’s when the negotiations started. You sit down with the examiner talk through his problems with the credit and give him your perspective. Nine times out of ten you find yourself sitting across the table with a fair person that recognizes that you views have value given the fact you have a face-to-face and day-to-day understanding of the nuances of that particular loan. Sometimes they come around to your view, sometimes they don’t but there was normally a positive give and take as the final decision was sorted out. (Just an aside here, sometimes you didn’t argue too hard because you felt they hadn’t been tough enough on the loan, but that’s a blog for another time).

So if you start seeing the wild arses in the blogosphere who want to make a mountain out of every mole hill they trip over going ballistic over this, don’t buy into it. It sounds very much like the regulators and the banks sat down and had some adult conversations about the test results. That’s what you want. Adults discussing a difficult situation and reaching a consensus about what needs to be done.

The world tends to work pretty well when you approach it in that manner.

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