Feb. 24 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke rejected the idea that officials plan to use reviews of banks’ balance sheets as a pretext for government takeovers of the nation’s largest lenders.

The Treasury will buy convertible preferred stock in the 19 largest U.S. banks if stress tests determine they need more capital to weather a deeper-than-forecast recession, Bernanke told lawmakers in Washington today. The shares would be converted to common equity stakes only as extraordinary losses materialize, he said.

“I don’t see any reason to destroy the franchise value or to create the huge legal uncertainties of trying to formally nationalize a bank when it just isn’t necessary,” Bernanke said at the Senate Banking Committee hearing.

The Fed chairman’s remarks eased concern among some investors that the Treasury’s capital-injection plan would hurt banks’ shareholders and lead to nationalization. The Standard & Poor’s 500 Banks Index climbed 14.8 percent, the most in more than three weeks, to 68.2 in New York.

“Today at least there seems to be a growing sense of relief that nationalization was de-emphasized and put into perspective,” said Marshall Front, who oversees $500 million as chief executive officer of Front Barnett Associates in Chicago. “There’s a bit of relief that that’s not going to happen.”

‘Don’t Need Majority’

Bernanke said “we don’t need majority ownership to work with the banks” to ensure they are lending to consumers and businesses.

The chairman added that it will be up to Treasury Secretary Timothy Geithner and the Obama administration to determine whether more bailout funds will be needed from Congress.

“How much more we’ll have to do depends on the state of the banks, it depends on how the economy evolves and it depends on the margin of safety we think we want to have,” Bernanke said today. He separately warned that “if we don’t stabilize the financial system, we’re going to founder for some time.”

Bernanke also said the so-called stress tests that regulators will run on the 19 banks will look at potential losses over a two-year horizon if the economy worsens.

The stress tests “will look at the balance sheets and the capital needs of each of our 19 largest $100-billion-dollar-plus banks over the next two-year horizon,” Bernanke said in response to a question from Senator Bob Corker, a Tennessee Republican.

Economic Scenarios

The assessment will use “both a consensus forecast -- where we think the economy is likely to be based on private sector forecasts -- and an alternative which is worse,” Bernanke said.

In his semiannual testimony on the economy to Congress today, the Fed chief warned that the recession may last into 2010 unless policy makers can stabilize the financial system.

The economic forecasts Fed officials prepared in January suggest that “a full recovery of the economy from the current recession is likely to take more than two or three years,” Bernanke said.

A private survey today showed that confidence among U.S. consumers sank to a record low in February. The Conference Board’s index declined more than forecast to 25 this month, the lowest level since data began in 1967, the New York-based research group said today.

‘Strong’ Action

Bernanke urged “strong” action by policy makers. The message comes as the Obama administration works on fleshing out the details of its bank-rescue plan. Financial stocks had slumped further since Geithner unveiled his outline Feb. 10, amid concern a lack of details and worries over the ultimate intention of the approach.

Officials have also opened talks with Citigroup Inc. about providing further help to the lender after the company’s share price dropped to as low as $1.61 four days ago. It was at $2.43 at 1:53 p.m. in New York.

Along with a new round of capital injections, Geithner’s strategy includes creating public-private partnerships to purchase toxic assets weighing down banks’ balance sheets, and a $1 trillion program to restart the markets for securities backed by consumer and business loans.

The purpose of the stress tests on banks isn’t to provide a “pass” or “fail” grade, Bernanke said today. Instead, the government wants to ensure that firms can meet their obligation to lend even if the economy worsens, he said.

‘Sufficient’ Equity

“The bank could convert the preferred to common to make sure that it has sufficient common equity, and only at that time, going forward, if those losses do occur, would the ownership implications become relevant,” Bernanke said.

Treasury officials are expected to provide further information about the stress tests tomorrow.

Regulators won’t let banks “hide anything” as they look at how lenders have valued their assets, and will ensure that firms are using “appropriate models” for mark-to-market accounting, Bernanke said.

“We’re going to do a tough evaluation,” the central banker said in response to a question from Senator Richard Shelby of Alabama, the Senate panel’s ranking Republican.

Bernanke took issue with some observers’ characterization of major U.S. banks as “zombie” firms, kept alive only through access to federal programs. They have “substantial franchise value,” he said.

To contact the reporter on this story: Craig Torres in Washington at ctorres3@bloomberg.net.

Last Updated: February 24, 2009 17:06 EST