Trying to defuse the U.S. bank test bomb

By Karey Wutkowski - Analysis

WASHINGTON (Reuters) - The Obama administration faces one of its most sensitive financial decisions yet -- how to release the results of stress tests on the 19 largest U.S. banks without sending the weaker ones into a tailspin.

Intense investor interest and a desire among stronger banks to leak their results to differentiate themselves from rivals has caused regulators to abandon any hope of keeping the results under wraps.

The latest government plan is to release some form of the results in May and experts say Washington needs to be able to offer a clear message about how it will deal with weaker banks without risking the collapse of those institutions.

"The problem is that by putting somebody's name out there as being weak, the likelihood of having a run (on a bank) is pretty substantial." said Gil Schwartz, a former lawyer at the Federal Reserve who now works in private practice.

The tests were announced in February as a seemingly straightforward assessment of what additional capital banks would need if the economy deteriorates further.

Although the U.S. Treasury has said the tests are not pass/fail, the fear is that the markets will view institutions requiring more capital as failing.

Banks found to need more capital are meant to have six months to raise the funds in the market or seek an immediate government capital infusion.

Questions linger about whether regulators will go further than capital injections and other already announced plans to purchase toxic asset off banks' balance sheets.

For example, it is not clear if regulators will insist upon management changes, asset sales, mergers or large government ownership stakes.

And the government has asked Congress for more power to wind down troubled firms through a "resolution authority," fueling speculation about the fate of banks deemed weak.

"God help us if we get resolution authority and we think that some banks are going into the hospital and they end up going into the mortuary," a source active in the bank industry said, speaking anonymously because he is close to the top banks being tested.

TEST RESULTS

White House spokesman Robert Gibbs said on Wednesday that the government will release "in a systematic and orderly way... some of the results of these stress tests" in early May.

Gibbs said the stress test process was designed to give an exact diagnosis of the problem at the top banks, and should be seen as a step toward stability in the financial system.

"I think, rather than these being seen as a destabilizing activity, that instead they will be seen as... a stabilizing activity, that our hope is that banks that are not healthy or need help will, first and foremost, seek that help privately, and then we'll take steps from there to assist them," he said.