Grading On A Curve

The news leaking out from the stress tests just got worse and worse. First all the banks would be fine, then one would need more capital, then "at least" one, then six. So the banks did the responsible thing - they sought a delay while begging for a second opinion.

Citigroup Inc. may need to raise as much as $10 billion in new capital, according to people familiar with the matter, as the government continues negotiations with banks over the results of its so-called stress tests.

The bank, like many others, is negotiating with the Federal Reserve and may need less if regulators accept the bank's arguments about its financial health, these people said. In a best-case scenario, Citigroup could wind up having a roughly $500 million cushion above what the government is requiring.

The discussions stem from the tests being run by the Fed and the Treasury to assess the health of the country's 19 largest banks. Those results will be released Thursday, later than initially planned.

It's amazing that the banks are somehow allowed to negotiate the test results, like a slacker tenth-grader trying to pass calculus. This undermines the whole credibility of the tests, effectively making them useless. And this is a direct result of the Treasury Department structuring these tests in such a way that assured the banks nobody would fail, and all of them would get whatever funds were necessary, whether through private capital or a virtual government guarantee. It seems to me that the stress tests could have been used as leverage for negotiating Administration priorities. Instead, the opposite is the case.

It's hard to discern at a remove how much of the peevishness is the discovery by banks that they have little to lose in behaving like utter pigs. We saw it today with the failure of the bankruptcy mod bill in the Senate (even after concessions had been offered). Admittedly, Chrysler was a partial exception, since the Treasury made considerable economic concessions, but finally drew the line and put the company into bankruptcy. However. Team Obama wanted to make a show to prevent even worse shenanigans with GM (but the New York Times points out that the pre-pack could take as long as four months, hardly a quick in and out, and some bankruptcy lawyers have pointed out that other deals expected to be fast track have taken a year).

But let's face it, in a real test, you don't get to score it yourself and then argue the grade. The banks fundamentally don't seem to accept that they are regulated entities and expect to be treated as equal partners. Given the likely decay in employment given the weakening fundamentals, all the Treasury is doing is getting the banks to face the music perhaps six months ahead of time, which is something they should be doing on their own.

The Administration had something of real value, namely information, and they failed to use it. As a result, cramdown dies, thanks to the Mortgage Bankers Association. Foreign banks with substantial ties to the US can refuse to give up tax information on their offshore customers with impunity. And they'll be sure to go after the credit card reform bill in the Senate next week.

With respect to Chrysler, I keep hearing that Obama won a game of chicken with the hedge funds, and granted Cerberus ended up with nothing while Perella Weinberg accepted the government offer at the last minute. But Chrysler sits in bankruptcy, and nothing there is assured except that some of the fund managers will get their CDS paid off.

Geithner decided not to use the tools at his disposal. And I don't think he did that by accident. At this point, I'll have to believe this talk about a new Pecora Commission when I see it.