The Federal Reserve stress test, designed to rigorously analyze the United States’ biggest financial institutions, has shown that the country’s major banks are not up to scratch, according to a release from the central bank today. According to a preliminary report each of the eighteen institutions tested were not up to standard in at least one area of the test.

Federal Reserve Stress test

According to a Bloomberg piece on the Federal Reserve report, the banks fell short of the leading practice standards in at least one of five categories the test deems essential to capital management and risk assessment. Of particular concern, according to the piece, is the lack of procedures and models to deal with economic catastrophes. The stress tests were first carried out in 2009 after the massive failure of banks to deal with the 2008 mortgage crisis.

Risk Management

According to this morning’s report, banks were not able to provide projections for key financial data “that were not robust, transparent, and/or repeatable, or that did not fully capture the impact of stressed conditions.” The same criticisms applied to the risk levels provided by the banks.

The report was also critical of the favorable risks applied to many of the banks’ assets and liabilities in a modeled financial crisis. The projections provided by the banks did not take into consideration some of the problems of such an environment, according to the report.

The criticism of the data provided by the banks was differentiated by the quality of the information systems in use in each institution. Those banks that used modern effective information systems were able “to collect, synthesize, analyze, and deliver information quickly and efficiently.” Those that had older or less holistic approaches to information sharing were less well able to deal with tough decisions.

Federal Reserve’s Stress Test release

The coming stress test will be an important indicator for the strength of the United States’ economy and for the financial sector in particular. This morning’s Federal Reserve report was based on a mid year review carried out by the eighteen financial institutions themselves. The full results of the report will become available to the public in the middle of September.

The stress test is actually two separate analyses. The first looks at the bank’s assets and capital structure and attempts to test their stability in the event of an economic problem. The second test looks at corporate structure and information delivery inside the institutions.