The assumptions for the baseline scenario and the adverse scenario used to develop the so-called ‘Stress Tests' are overly optimistic and fall far short of any 'worst case' scenario to the point that some may charge that they are more like a ‘Best Case' scenario and a ‘Mild Discomfort' scenario.
The baseline scenario assumes:
- Gross Domestic Product (GDP) falling 2 percent this year,
- Unemployment rising to 8.4%, and
- Home prices dropping another 14%.
The adverse scenario assumes:
- GDP falling 3.3 percent,
- Unemployment rising to 8.9%, and
- Home prices dropping another 22%
With the exception of Citi Bank (apparently it receives special treatment) If a bank fails to pass the so-called 'Stress Test' the regulators give them 6 months to secure private financing before they can gain access to the next tranche of bailout funds.
Compare the GDP assumptions to the GDP data for 2008:
- For the calendar year 2008 GDP rose 1.3 percent,
- In the fourth quarter of 2008, GDP fell 3.8 percent, the biggest contraction since 1982.
How did they determine that a projected 3.3% decline in GDP was sufficient for their so-called 'Stress Test?'
Compare the unemployment assumptions to the unemployment rate for January 2009 when it surged to 7.6 percent, the highest in more than 16 years. If you average the unemployment numbers given by reputable economic forecasters it amounts to slightly less than 9%. It would seem more appropriate to use 8.9% unemployment for the baseline scenario.
With declining GDP, rising unemployment, and yet another wave of foreclosures ready to drive housing prices to new lows we could easily exceed their estimates for dropping home prices if their foreclosure/refinancing programs aren't wildly successful within the 6 month time frame that they have provided to banks to secure private financing.
With this data and your current sense of the impact of the credit crisis on lenders, businesses, and consumers; and the depressed levels of consumer confidence and investor confidence do you think that these scenarios are adequate to address the ‘worst case' scenario? I certainly don't and I don't think that they will do anything to restore investor confidence in the banks. It seems to me that they are trying to by time and that they are apparently ‘kicking the can' of responsible action by banking regulators down the road by 6 months. The outlook is dire indeed.