The biggest lesson of 2008 is opacity is the necessary condition for a financial crisis to occur.  Investors panic and rush to sell when the valuation story Wall Street tells about opaque investments is called into doubt.  In the presence of transparency, investors don’t panic.  They have the information they need to reassess the value of an investment as new information becomes available.

Unfortunately, this is not the lesson the Committee to Save the Banks wants everyone to learn.  They want everyone to think easily manipulated, meaningless bank capital is the key to minimizing the likelihood and impact of financial crises on the real economy.

The Committee is helped in promoting this easily debunked myth by the financial media.  Bloomberg provided the latest example.

The 2008 financial crisis showed what happens when the banking system lacks an adequate foundation of loss-absorbing equity capital. Unable to raise what they needed from wary investors, banks were forced to slash lending at precisely the worst time for the economy.

Did banks really slash lending as a result of too little capital?  Were thousands of lending officers fired?

The answer to both question is NO!

Lending is entirely opportunistically driven.  Loans are made when there is the opportunity to make a loan the lender thinks will be profitable.  No consideration is given to will the lender hold the loan on its balance sheet.  All lenders know there are plenty of buyers for the loan if they don’t have the capacity to retain it.

The lesson seems clear enough: Banks should raise capital while they can, and before they have to. The Federal Reserve apparently hasn’t learned it.

The 2010 Dodd-Frank Act gave the Fed this very responsibility: tell banks to build a buffer of extra capital in good times, when the economy is growing and funds are relatively easy to raise. …

The question is when to add to the buffer. In the U.S., now seems right.

This advice stands in direct contrast to the annual bank stress tests.  Each year since 2009, the Fed has said the banks passed and have enough capital to withstand financial armageddon.

If you think the Fed should act on this advice, then you think the Fed stress tests are fundamentally flawed.  Either the banks can withstand financial armageddon or they cannot.

Of course, if the banks provided transparency and disclosed their current exposure details, then we would know if they need more capital or if they have enough capital to withstand financial armageddon.