Heather Stewart: Slow rescue of US banking sector increases risks

Opinion

Barack Obama's first hundred days have been a triumph of international diplomacy, hyperactive lawmaking and pizzazz, but he has failed to get a grip on one of the most pressing problems in his in-tray: America's clapped out banks.

We're still awaiting the long-delayed results of the "stress tests" of 19 major financial institutions which are at the heart of the White House's response to the crisis, which have apparently been delayed until Friday.

Tim Geithner, Obama's Treasury Secretary, hopes that by identifying which banks need more cash, and forcing them to raise it, he can prove that the sector is fit to withstand even a sharp deterioration.

Bankers have been informed of their fate, and if early leaks are true, Citigroup and Bank of America will be told they have to raise more cash from investors in the markets, and given a deadline by which to find the funds.

Geithner and his colleagues are pressing on with the second part of their plan, which involves subsidising private investors to buy up the dodgy assets on the banks' balance sheets.

Both parts of the Geithner plan are problematic: the stress tests risk being either being too weak (the "more adverse" scenario banks are being measured against has unemployment rising to 10.3 per cent - many economists believe things could get much worse) or so strict that they destabilise the entire system, by revealing the banks to be alarmingly underfunded.

The toxic asset purchase scheme - in effect a public-private partnership to take over the banks' waste - is untested. More than a hundred investors have signed up, but it's not clear what they will buy, at what price, and whether it will be enough.

With much more than America's fortunes riding on Geithner's efforts to stabilise the US financial sector, there was concern among international policymakers at the IMF meetings in Washington last week about whether he would succeed. At the same time, Obama has been powerless to stem the decline in America's housing sector.

His high-profile "homeowner affordability and stability plan" is less generous than it sounded. Borrowers can cap repayments at 30 per cent of their gross income and it is left to lenders to decide whether they will renegotiate a reduction in the size of their loan with homeowners in default.

Those are the same lenders who are likely to be told that they need to build up more capital against future shocks. Fortunately, the results of the stress tests are coming at an optimistic moment, with markets in the midst of a bounce - but it wouldn't take much to knock the bull market off course.

We have been through eerie lulls before in this crisis: after the Northern Rock bailout in late 2007; the Bear Stearns rescue last year - and after Britain recapitalised its banks in October. The longer this is strung out, the greater the risk that the markets slip back into vertigo.

Geithner knows this - so the only explanation for his approach is desperation to avoid being forced to ask Congress for more cash.

America's voters would be rightly sceptical about new bailouts for Wall St. However, with carworkers taking over a majority share in the bankrupt Chrysler, plenty of other taboos have been overturned - and if anyone has the political credit to sell a radical rescue, surely it is Obama.

Meanwhile, British Chancellor Alistair Darling and his team have made a cleaner job of building a taxpayer-funded firebreak around the banking sector, albeit at immense potential cost. One hundred days should have been plenty of time for Geithner to do the same.

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