Senate Democrats are using the results of recent stress tests to defend the Dodd-Frank Act against critics and repeal-and-replace efforts.
The tactic comes from a joint statement by U.S. Sen. Sherrod Brown (D-Ohio), ranking member of the Senate Banking Committee, and committee colleagues Jack Reed (D-R.I.), Bob Menendez (D-N.J.), and Elizabeth Warren (D-Mass.). In their view, the strong performance of U.S. banks in the stress test is further proof that the Dodd-Frank Act “is working and now is not the time to roll back the protections put in place following the 2008 financial crisis.”
“If no one fouls out in a game, you don’t fire the referees,” Brown said. “Dodd-Frank has led to a safer banking system, and we should not scrap the rules because the banking system is less fragile than it was a few years ago.”
“It’s indisputable that our banking system is stronger, safer, and more resilient today because of the reforms we instituted after the financial crisis,” Menendez said.
The Federal Reserve announced the results of the fifth round of annual stress tests required by the Dodd-Frank Act on June 22. “The nation's largest bank holding companies have strong capital levels and retain their ability to lend to households and businesses during a severe recession,” according to a statement on the results.
The most severe hypothetical scenario projected $383 billion in loan losses at the 34 participating bank holding companies during the nine quarters tested. The "severely adverse" scenario features a severe global recession with the U.S. unemployment rate rising by approximately 5.25 percentage points to 10 percent, accompanied by heightened stress in corporate loan markets and commercial real estate.
The firms' aggregate common equity tier 1 capital ratio, which compares high-quality capital to risk-weighted assets, would fall from an actual 12.5 percent in the fourth quarter of 2016 to a minimum level of 9.2 percent in the hypothetical stress scenario. Since 2009, the 34 firms have added more than $750 billion in common equity capital.
"This year's results show that, even during a severe recession, our large banks would remain well capitalized," Federal Reserve Governor Jerome Powell said in a statement. "This would allow them to lend throughout the economic cycle, and support households and businesses when times are tough."
It was the seventh round of stress tests led by the Federal Reserve since 2009 and the fifth round required by the Dodd-Frank Act. The 34 bank holding companies tested (generally those with $50 billion or more in total consolidated assets) represent more than 75 percent of the assets of all domestic bank holding companies.
The Federal Reserve uses its own independent projections of losses and incomes for each firm.
In addition to releasing results under the severely adverse hypothetical scenario, the Board on Thursday also released results from the "adverse" scenario, which features a moderate recession in the United States. In this scenario, the aggregate common equity capital ratio of the 34 firms fell from an actual 12.5 percent in the fourth quarter of 2016 to a minimum level of 10.7 percent.
The Dodd-Frank Act stress tests are one component of the Federal Reserve's analysis during the Comprehensive Capital Analysis and Review, an annual exercise to evaluate the capital planning processes and capital adequacy of large bank holding companies. CCAR results were released on the afternoon on June 28.
“To those who say it’s hurt business, I’d point to a recent banking witness from Georgetown University that found community banks pre-tax return on equity was 225 percent and the figure for mega-banks was 320 percent,” Sen. Reed said. “There’s always room to improve regulation, but these stress tests show Dodd-Frank repeal is a bad idea.”
“Passing the stress test is the minimum a big bank can do, and the banks passed in large part because of new financial rules that required them to strengthen their balance sheets,” Warren said. “Using the stress test results as an excuse to weaken those tests or roll back the rules is pure lobbyist spin, and I’m not buying it.”