Bernanke says Citigroup, Bank of America will survive

Their stock prices are anemic, and investor confidence in the sector is at its lowest point since perhaps the 1930s, but the nation's top banker provided the strongest hint yet that a rejuvenated banking system will not exclude the nation's two largest banks, Citigroup and Bank of America.

While being careful not to reveal any specific, potential future actions, or the financial form they could take, U.S. Federal Reserve Chairman Ben Bernanke, testifying Tuesday before the Senate Banking Committee, in an exchange with Sen. Richard Shelby, R-Alabama, the committee's ranking member, dispelled any notions that the Fed believes Citigroup and the Bank of America are, in Shelby's words, "mummies."

Sen. Shelby:
Aren't these banks dead?

Chairman Bernanke:
No, Senator, they are not.

Bernanke then went on to outline how a two-step process would begin the task of healing the nation's banking system, C-SPAN reports.

Next step: Bank stress test

The first step involves the U.S. Treasury's Department's stress test to determine major banks' toxic asset content, including overall portfolio health and operational health, Bernanke said.

The second step involves a plan for stabilization and recapitalization, and although Bernanke obviously could not specify the size or scope of possible individual bank interventions, he nevertheless indicated that stabilizing and supporting existing large banks would create less sector stress and cause less disruption to the U.S. and global financial systems than 'shutting down' one or more of the major banks, Citibank and the Bank of America included.

Bernanke also countered a contention by Sen. Shelby that the banks' low stock price was tantamount to the markets' judgment that the banks are insolvent. Bernanke said the stock prices may also reflect doubt about what the government plans to do in relation to the banks -- for example, whether the government would take control of the institutions, a tactic that could potentially wipe out both common stock holders and bond holders, and disrupt counterparty relationships, thus shying away investors, and potential business.

Citibank's (NYSE: C) shares rose 31 cents to $2.45, while the Bank of America (NYSE: BAC) rose 69 cents to $4.60 in Tuesday afternoon trading.

Monetary Policy Analysis: Fed Chairman Bernanke's testimony Tuesday provided further evidence that while new banks and other public-private institutions will likely be created, the revised banking system will not, by design, exclude current major banks. The Fed still views closure of one of the major banks as doing more harm to the financial system than it would eliminate, and that's the view from here, as well: the major banks' relationships are too vast and their infrastructures are too interconnected to the global financial system not to be include in the new and improved banking sector.
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