JIM LEHRER: A major bank set off new tremors that rattled the financial world today. It sparked a sell-off in the stock market, and the Dow Jones Industrial Average lost nearly 300 points.
Ray Suarez has our lead story report.
RAY SUAREZ: Bank of America sowed new doubts in the markets when it set aside $13 billion for loan losses in the first quarter. That was a sharp increase from the previous quarter, and it overshadowed the bank’s profit of nearly $3 billion.
Chief Executive Kenneth Lewis issued a statement, saying, “We continue to face extremely difficult challenges, primarily from deteriorating credit quality.”
Bank stocks had led the way in Wall Street’s recent rally, but today’s news rekindled fears.
Bank of America shares plunged 24 percent, and overall the Dow Jones Industrial Average fell more than 289 points to close below 7,842. The Nasdaq was down nearly 65 points to close at 1,608, a loss of nearly 4 percent.
There were also concerns about a New York Times report that the administration may convert federal loans to the banks into common stock. The move would delay having to ask Congress for more money, but it also raised new questions about nationalizing major banks.
On Sunday, White House Chief of Staff Rahm Emanuel tried to allay those fears on ABC.
RAHM EMANUEL, White House Chief of Staff: This is very important, and rightfully so. I believe we have the resources. I believe — not only — I believe we will not have to deal with nationalization, and that’s not the goal, nor do we think that’s the right policy objectives here.
RAY SUAREZ: Banks also faced new questions about how they’re using all that federal aid. The Wall Street Journal reported lending at the largest institutions has fallen more sharply than government reports indicate.
Still, the president defended the bank rescue effort, as he met with his cabinet.
BARACK OBAMA, President of the United States: We’ve had to spend a significant amount of money, both on the recovery act to create and save jobs and to lay the foundations for long-term sustainable economic growth, also in order to make sure that the financial systems are strong enough to start lending to businesses and communities so that we can start creating jobs again. That was the right thing to do and the necessary thing to do.
RAY SUAREZ: Mr. Obama also said he means to begin cutting government spending by $100 million, for starters.
And General Motors announced new cost-cutting of its own in the form of 1,600 white-collar jobs.
Profits from one-time sources
RAY SUAREZ: And for more about the latest developments on the banking story, we're joined by Binyamin Appelbaum of the Washington Post.
Why on the same day as Bank of America announces better than expected profits, becoming only the latest in a line of banks to do so, were the headlines dominated by fears about the company's health?
BINYAMIN APPELBAUM, Washington Post: Because most of the profit come from one-time sources that aren't likely to be repeated, but the losses are a continuing problem that keeps on getting bigger and bigger and bigger. And analysts expect that institutions are going to continue reporting these kinds of losses and even larger losses on the loans that they've made.
RAY SUAREZ: So it was just kind of an accounting anomaly that...
BINYAMIN APPELBAUM: Some of it was accounting; some of it was investment banking. This was a wonderful quarter to be an investment banker, ironically enough. Banks made a lot of money from their Wall Street trading activities. But where they didn't make money was their traditional retail banking activities. The core business of making loans to consumers and businesses, they continue to rack up huge losses there.
RAY SUAREZ: Is lending down because there's just literally less money to lend? Or is it because consumers just don't want to borrow?
BINYAMIN APPELBAUM: It's both, and they feed off of each other. So when a bank, for example, refuses a loan to a small business or pulls its line of credit and that small business closes, its employees have less interest in borrowing for a mortgage or in using their credit cards. And that, in turn, cycles through the next small business, where they're no longer spending. Once these cycles get started, they're very hard to break.
RAY SUAREZ: Is that why CEOs are so reluctant to say the worst is over, even in the face of what looks at first glance like good news?
BINYAMIN APPELBAUM: It is interesting, because CEOs are usually the first to trumpet good results. And in this quarter, we've seen the heads of several major banks come out and say, "The worst is not over. We still have big problems. We're still facing extreme challenges."
I think it's a reflection of how bad the data actually is. They see it. They know what it looks like. And they're telling us what it looks like.
RAY SUAREZ: What about the credit card business? Is there any indication of the future health of the economy coming from that?
BINYAMIN APPELBAUM: You know, we started with a mortgage problem. And we started with huge losses on mortgage loans and foreclosures, and these are familiar issuesÂ by now.
But what's been happening in recent months is that losses in other loan categories, in credit cards, in lending on commercial real estate, and in other categories beyond those have gotten much, much larger. And banks increasingly are saying, you know, the mortgage problems, as large as they are, may have peaked or be getting closer to peaking, but credit cards, commercial real estate, these categories, that's where the new problems are.
Reluctant to rely on government
RAY SUAREZ: What do you hear from your reporting about the government's gelling plans to have money become common stock instead of preferred stock?
BINYAMIN APPELBAUM: This is interesting. They've already done this with Citigroup. The government came out earlier this year and told Citigroup that it could basically -- when the government made its initial investments in banks, it required them to pay regular interest on those investments. And the effect of what the government did with Citigroup was to say, "You know what? Forget about the interest payments. You keep that money; you need it, essentially, more than we do."
And the government is now considering doing that with other troubled banks, as well, saying to them, basically, in addition to the money that we're giving you, stop giving us money. Keep it for yourselves. Use that money to help bulwark your financial positions.
RAY SUAREZ: Is that how it buys the administration some time in not having to go back to Congress for more money?
BINYAMIN APPELBAUM: That's right. If I've given you $100 and told you that I want you to pay me $50 in return and then I tell you, you don't even need to bother giving me that $50, I've effectively given you another $50 and delayed the day when I need to make you an additional loan.
RAY SUAREZ: Just in the past couple of days, and even until today, leaders of big financial institutions are showing a real ambivalence about continuing to participate in government rescue plans.
BINYAMIN APPELBAUM: Yes.
RAY SUAREZ: Isn't there broad agreement that those plans under both administrations did keep some places from going under?
BINYAMIN APPELBAUM: There's no question that in the fall the government's intervention was critical to sustaining the financial industry and to keeping a lot of these companies in business.
The question now, particularly among the firms that see themselves as stronger, is whether they still need the government's help or whether they've moved past that moment.
And even the banks that do need the government's help, I don't think it's too strong to say that they hate relying on the government. They hate the uncertainty associated with the possibility that Congress will impose new restrictions on them. They hate needing government help.
Stress tests will label banks
RAY SUAREZ: So some are planning to get out of that rescue money, return it to the government as soon as possible?
BINYAMIN APPELBAUM: They would like to. They've been pushing the government for permission to do that. When the chief executives met with President Obama, several of them asked him directly for permission.
What the government has said both publicly and privately is that they will not allow the banks to repay this money until they are convinced that it is good not just for the individual institutions but for the economy as a whole.
That's a high standard. And it remains to be seen if the banks can meet that standard.
RAY SUAREZ: What role will what's being called the stress test play in just that kind of diagnostic?
BINYAMIN APPELBAUM: In part, it will help us differentiate the strongest banks from the weaker ones. It will tell us who really is healthy enough to think about paying back the government.
And in part, it will set specific targets and tell us this bank needs to raise $10 billion of additional capital, this bank has all the money that it needs.
But mostly it's a stage-setting device. It's a way for the government to frame the conversation that it wants to have both with the banks and with Congress about what else needs to be done.
RAY SUAREZ: Is there some risk in there for the banking industry that, when the first reports start to come out at the end of April and in early May, will, in effect, create two classes of banks, ones that are doing well in their stress tests and ones that aren't?
BINYAMIN APPELBAUM: Absolutely. I mean, this is something the government has been very concerned about since the start of the financial crisis, is avoiding distinctions between who is healthy and who is weak. And these stress tests will end that obscurity.
It will essentially say, "You know, here are the banks that are good. Here are the banks that are not as good." And we will lose the cover that has been offered by that ambiguity.
Assessing the test numbers
RAY SUAREZ: So what do you hear about the first results? When will we start to get some stress test numbers?
BINYAMIN APPELBAUM: The government initially said it would happen by the end of April. They're now saying the first week in May.
The problem, basically, is that they've gone to the banks and asked them to produce numbers, but the banks all have different systems for producing those numbers. And they now need to equalize the results and make sure that they're comparing apples to apples.
And even once they've done that, they then need to go back to the banks and reach an agreement with them that the numbers are actually representative, that assets are worth an agreed-upon amount, that the parameters that they've used to look into the future makes sense to everyone.
This was a huge and almost overwhelming process when the government did it with just two banks, Citigroup and Bank of America, earlier this year. They're now doing it with 19 banks all at once. That's a lot.
RAY SUAREZ: Binyamin Appelbaum, thanks a lot for joining us.
BINYAMIN APPELBAUM: My pleasure.