WASHINGTON—The Federal Reserve kicked off the next round of its annual "stress test" for big banks Friday, releasing instructions on how the process will work.
Included is a new opportunity for banks to reduce their planned capital distributions before the Fed decides to approve or reject their capital plans.
The Fed did not release the three economic scenarios on which the test is based, saying it would release those by Nov. 15. Banks had asked for the instructions to be released as early as possible. Both pieces of the test will be out earlier than last year, when the Fed fired the starting gun two days before Thanksgiving, sparking complaints from the industry.
Banks must submit their capital plans by Jan. 7.
The newly added chance to reduce dividend or share buy-back proposals would help banks that pass the first half of the test—showing they have adequate capital to withstand a severe economic downturn without making any capital distributions—but whose planned payouts for the year would cause their capital levels to fall below the threshold set by the Fed.
This is the situation Citigroup Inc. C -0.03% encountered in March, when it passed one part of the test but had its capital plan rejected by the Fed for being too aggressive. Market and media attention focused on the fact that the Fed rejected its plan.
Under the new instructions, banks will have "one opportunity to make a downward adjustment to their planned capital distributions from their initial submissions" before the final decision to accept or reject a bank's capital plan is made, the Fed said.
The change is only a partial concession to banks. Bank executives wanted a fuller opportunity to consult with Fed officials before the results are made public. Fed officials also said that a bank's original request, and the fact that it would have failed the test, would be released to the public along with the revised capital distribution plan.
Fed officials also declined to change their stance on sharing the models they use to produce the results.
Started in 2009 in the depths of the financial crisis, the annual stress test process has emerged as a central feature of how the Fed supervises the health of the nation's largest banks.
The Fed will release summary results, including projected capital ratios, losses and revenues under the severely adverse economic scenario for the 19 largest banks, the same as last year. Eleven additional banks—those with $50 billion or more in assets—will go through the process but not have their results released, the Fed said. "The Federal Reserve has been focused—and will remain focused—on ensuring the nation's largest financial institutions have enough capital to weather severe, unexpected conditions and still continue lending to households and businesses," Fed Governor Daniel Tarullo said in a written statement. Mr. Tarullo is the Fed's point man on bank supervisory issues and major backer of the stress-testing process