The sub-headline for the New York Times article "Banks Brace for Credit Card Write-Offs" is plenty gloomy: "Even the grim projections may vastly understate the size of the credit card troubles in store for major U.S. banks." In the worst-case scenario envisioned by the regulators conducting the stress tests, banks could lose as much as $84.2 billion on credit cards.
But buried about halfway down is an even more alarming observation:
In the official stress test results, regulators published losses only on credit cards held on bank balance sheets. The $82.4 billion figure did not reflect another element in their analysis: tens of billions of dollars in losses tied to credit card loans that the banks packaged into bonds and held off their balance sheets. A portion of those losses, however, will be absorbed by outside investors.
The collapse of the subprime lending mortgage market transformed hundreds of billions of dollars worth of mortgage-backed securities into "toxic assets." The implication of the Times' analysis is that future losses on credit cards could transform credit-card backed securities into equally poisonous junk. And that's under a worst case scenario that looks awfully much like what is actually happening.
Exacerbating the entire mess: If Americans succeed in paying down their credit card debt, thus helping banks avoid the pain of writing off credit card defaults, the overall economy continues to suffer from the demand shock of newly parsimonious consumers. Optimism may be growing about a return to economic growth in the fourth quarter of this year, but there are clearly some strong head winds working against any forward progress.
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