Why Are Banks Paying Back Loans They Can't Afford?

by: The Lonely Economist

The initial stress tests came at a time when the government kept pouring money into banks but had no way of testing whether this money was actually making a difference.

When the results of the first bank stress test were announced, the market did gain a small boost of confidence when they learned that banks would have to raise less capital than previously anticipated.

But, this confidence soon evaporated as the public learned that it would be near impossible to duplicate the test again. The banks themselves were calling the test unfair and confusing, and too many questions were left unanswered that the government was unwilling to answer or simply was unable to.

Now, as the Treasury announced that certain banks are going to be allowed to pay back $68 billion of TARP fund, the Congressional Oversight Panel is calling for more stress tests. They believe these stress tests should be conducted periodically because circumstances change and they can become strenuous on banks.

If this is the case, then why is the government allowing these banks to repay the loans when there is nothing more than circumstantial evidence that shows that they are in a “decent” shape?

Banks still hold large amounts of toxic debt in their books, and the fact that they’ve raised capital and are willing to repay their loans hasn’t changed this. The jobless rate in the U.S, at the current moment, is 9.4%.

This rate isn’t expected to go down anytime soon, if anything it’s expected to go up in the near future. President Obama’s promise to create 600,000 jobs over the next 100 days may just very well not become a reality in such a short span of time. With so many Americans out of jobs, it’s no surprise that credit problems are high and that credit card delinquencies have increased.

This spells trouble for the very same banks that are in a hurry to repay their TARP loans. Many of these banks issue cards, such as JP Morgan Chase & Co. (NYSE:JPM), American Express Co. (NYSE:AXP), Citigroup Inc. (NYSE:C), and Bank of America Corp. (NYSE:BAC), to name a few. Their profits are already expected to fall as recent credit card legislation bars credit card companies from charging certain excessive fees.

With so many problems against them, it’s a shock the government is actually permitting them to repay the loans at this moment. The banks actually believe that by repaying the funds the government will no longer meddle in their business, which is the real reason they’re in such a hurry to repay the loans.

They're wrong, so very wrong. Banks are going to be under government scrutiny for a very long time, so it doesn’t matter whether they pay the loans now or later. They may still have to undergo more bank stress tests and by returning money they can’t afford to give back, they are only putting themselves in a precarious situation.

So banks out there, it doesn’t matter if you return the money now or later, Uncle Sam is still watching you. Just keep the money and return it when you’re 110% confident that you actually can afford to. If not, you’re just going to dig yourself in a hole that the government just might not save you from again.