Enhanced Stress Testing and Financial Stability
43 Pages Posted: 12 Jun 2012
Date Written: May 15, 2012
To date, regulatory stress testing in the United States has focused on ensuring the banking system is resilient to losses in one or a few stress scenarios that involve macro-economic weakness, but it is unclear how far this resilience extends beyond the stresses considered. In addition, a theory of which stress-scenarios should be chosen to achieve systemic-risk reduction objectives has not yet been developed. To improve stress testing practices, this paper proposes a framework for modeling systemic risk. The framework is used to analyze areas where current stress-testing practices can be improved. In addition, the paper proposes a new approach for systemic risk stress-testing and recapitalization policy that ensure the banking system is robust to a wide set of shocks, but minimizes the costs of achieving robustness through better sharing of risk.
Keywords: Stress Testing, Financial Stability, Bank Capital Regulation
JEL Classification: G21, G28, G18
Suggested Citation: Suggested Citation