WASHINGTON — The Obama administration put the nation's biggest banks on notice Monday that the government could become their biggest shareholder if regulators decide they are not strong enough to weather a deeper-than-expected downturn in the economy.
In an unexpectedly assertive joint statement, the Treasury Department<http://topics.nytimes.com/top/reference/timestopics/organizations/t/treasury_department/index.html?inline=nyt-org>, Federal Reserve and federal bank regulatory agencies announced that the government might end up demanding a direct ownership stake in major banks after they undergo a tough evaluation of their strength, which is to begin shortly.
"The capital needs of major U.S. banking institutions will be evaluated under a more challenging economic environment," the administration said. "Should that assessment indicate that an additional capital buffer is warranted," it continued, the banks could be required to give the government a right to acquire common shares, with voting rights.
The statement came as federal regulators confirmed that they were in discussions with Citigroup<http://topics.nytimes.com/top/news/business/companies/citigroup_inc/index.html?inline=nyt-org>over precisely that kind of swap. Citigroup, which has received $45 billion in direct assistance and given the Treasury nonvoting preferred shares that pay a guaranteed dividend — is negotiating to swap the preferred shares for common shares that would give the government a stake as high as 40 percent.
Administration officials said Citigroup had initiated the talks with federal regulators, and the new statement stopped well short of declaring that regulators were ready to partly or wholly "nationalize<http://topics.nytimes.com/top/reference/timestopics/subjects/n/nationalization_of_industry/banks/index.html?inline=nyt-classifier>" any major banks.
On Wall Street, most major bank shares were higher in noon trading, while the overall market was down more than 1.5 percent.
The administration said its "strong presumption" was that "banks should remain in private hands."
But the statement also officially amounted to a road map under which the federal government could, if it wanted to, demand a major and possibly a controlling stake in systemically important banks like Citigroup and Bank of America<http://topics.nytimes.com/top/news/business/companies/bank_of_america_corporation/index.html?inline=nyt-org>.
The 20 biggest banks will be required to undergo a new "stress test," starting Wednesday, which is intended to determine whether each bank has enough capital to survive if the economy spirals down even more than most forecasters already expect.
Treasury officials plan to introduce details of the stress test on Wednesday, and it is expected to take several weeks to complete.
If a bank comes up short, Treasury officials said on Monday, the government will require it to raise more capital. If the bank cannot get that money from private sources, the government will demand that the bank swap out the government's existing, nonvoting preferred shares — issued during the first phase of the Treasury's $700 billion financial bailout program last September — and replace them with new preferred shares that are convertible to common stock with voting rights.
The requirements will apply both to banks that receive additional money in the months ahead and to banks that have already received money.
In the case of Citigroup, the negotiations do not involve any additional infusions of taxpayer money. Rather, the negotiations are aimed at strengthening Citigroup's capital position by replacing preferred shares, which resemble debt more than equity, with common shares. Acquiring common stock would give the government more control, but expose it to more risk. Armed with voting shares, government officials would have more power to oust existing management and change the company's strategy. But the Treasury would also lose its claim to dividend payments, which in Citigroup's case amount to more than $2.25 billion a year.