In this context, it is worth noting that the United States had led the world with its Federal Deposit Insurance Corporation (FDIC) Improvement Act in 1991 in establishing a state-ofthe-art resolution regime for depository institutions to avoid the panics and runs associated with the risk of insolvency of a financial institution, while at the same time protecting the taxpayers. However, this regime did not address how to efficiently resolve holding companies  4  In the 1930s, Congress had passed legislation giving the Federal Reserve additional flexibility in its lender-oflast-resort powers but these were removed with the passage of the small business investment act in 1958. 5  Most of this information can be found at the Board of Governors of the Federal Reserve System’s Credit and Liquidity Programs and the Balance Sheet. 4  BIS Review 81/2010  that included a depository institution, investment banks or other financial institutions that were tightly and very intricately woven into the global financial system. Perhaps because many thought that March 2008 was the height of the crisis, the overwhelming importance of this lesson coming out of the Bear Stearns episode did not translate into this gap in our regulatory framework being addressed with sufficient urgency. As I will discuss momentarily, the gap re-emerged as a main accelerant of the crisis with the collapse of Lehman Brothers in September of that same year.
Instead the objective was to assess their capital needs under a deeper and longer recession than was the consensus in early 2009, and then require them to meet these capital needs in the very near term, before the adverse scenario developed. One important rationale for the program was that the presence of the additional capital would make the adverse scenario less likely. The credibility of this strategy was dependent on the availability of the U.S. Treasury’s Capital Assistance Program to provide capital if the private market was unable to do so. Moreover, a brave decision was made to be transparent about the procedures the supervisors were using in their assessment and to pre-commit to disclose detailed results. In addition, the main measure of capital needs would be in terms of common equity rather than the preferred equity that was used in the U.S. Treasury’s Capital Purchase Program. BIS Review 81/2010  7  The assessment process took just under three months to complete. It involved many innovations in the supervisory process that will continue to influence the approach to the supervision of large complex financial institutions in the future. The results of the assessment were striking. Under the more adverse scenario of a longer and deeper recession, the twoyear loss rates on average across the 19 banks were projected to be as high as experienced during the Great Depression. Further, this average hid an incredible amount of heterogeneity across both banks and asset classes.