Stress Testing the Stress Test Scenarios: Actual Macro Data Are Already Worse than the More Adverse Scenario for 2009 in the Stress Tests. So the Stress Tests Fail the Basic Criterion of Reality Check Even Before They Are Concluded

The spin machine about the banks’ stress test is already in full motion; some  banking regulators or other US government officials have already leaked to the New York Times the spin that all 19 banks who are subject to the stress test will pass it, i.e. none of them will fail it. But if you look at the actual data today macro data for Q1 on the three variables used in the stress tests – growth rate, unemployment rate, and home price depreciation – are already worse than those in U.S. government baseline scenario for 2009 AND already very close to or worse than those for the more adverse stressed scenario for 2009.  Thus, the stress test results are meaningless as actual data are already running worse than the worst case scenario.

The FDIC, the Fed and the OCC (this was an inter-agency process) used assumptions for the macro variables in 2009 and 2010 both the baseline and more adverse scenarios that are so optimistic that actual data for 2009 are already worse than the adverse scenario. And for some crucial variables such as the unemployment rate – that is key to proper estimates of default rates and recovery rates (given default) for residential mortgages, commercial mortgages, credit cards, auto loans, student loans and other banks loans – current trends show that by the end of 2009 the unemployment rate will be higher than the average unemployment rate assumed in the more adverse scenario for 2010, not for 2009! In other terms, the results of the stress test – even before they are published – are not worth the paper they are written on as they make assumptions on the economy that are much more optimistic –even in the worst scenarios that the government has designed -  than the actual figures for Q1 of 2009.

Description of the stress tests baseline and more adverse scenarios