The Federal Reserve announced Thursday that all of the 23 major banks subject to Dodd-Frank stress tests this year proved they could withstand another severe downturn.
"Over the past year, the Federal Reserve has run three stress tests with several different hypothetical recessions and all have confirmed that the banking system is strongly positioned to support the ongoing recovery," said Fed Vice Chair for Supervision Randal Quarles in a statement.
All banks with more than $250 billion in assets are subject to stress tests under the Dodd-Frank Act, the 2010 financial reform law passed in the wake of the 2007-08 financial crisis. Banks with between $100 billion and $250 billion in assets are subject to stress tests every other year, but four chose to be tested again in 2021.
Dodd-Frank stress tests are meant to determine if a bank has enough capital to handle massive losses during a major recession and continue to lend to households and businesses. Those tests also help the Fed set capital requirements for large banks, which can be penalized for falling below those levels.
Tested banks are also now able to resume buying back shares of stock and distributing dividends to investors, which the Fed banned during the depths of the COVID-19 downturn.
The Fed tested banks on how they would be able to handle a downturn in which the unemployment rate rises to 10.75 percent, gross domestic product falls 4 percent in 12 months, asset prices fall by 55 percent, and “substantial stress” occurs in the corporate debt and commercial real estate markets.
While the stress-tested banks are projected to lose $470 billion in that situation, their capital ratios would only decline to 10.6 percent, more than twice the minimum of 4.5 percent.
Advocates for banks praised the news as a sign of sector's strength and dependability for the U.S. economy.
“The strength and resiliency of the nation’s largest banks have been reconfirmed through this hypothetical stress test as well as their performance throughout the dramatic course of the global economy over the past 15 months. We are proud of the supportive role our member banks have been able to play for American businesses and households," said Kevin Fromer, president and CEO of the Financial Services Forum, a group representing the eight largest U.S. banks.
Financial sector critics, however, called the stress test results a predictable outcome of a watered-down process.
"Of course, the largest banks have ample levels of capital to weather the economic downturns reflected in the Fed’s scenarios – that is the Fed’s policy objective," said Dennis Kelleher, president and CEO of Better Markets, a non-profit that supports stricter financial rules.