Open Access
Optimal severity of stress test scenarios
Loading...
Files
RSC_2024_52.pdf (2.36 MB)
Full-text in Open Access
License
Attribution 4.0 International
Access Rights
Cadmus Permanent Link
Full-text via DOI
ISBN
ISSN
1028-3625
Issue Date
Type of Publication
LC Subject Heading
Other Topic(s)
EUI Research Cluster(s)
Initial version
Published version
Succeeding version
Preceding version
Published version part
Earlier different version
Initial format
Citation
EUI; RSC; Working Paper; 2024/52; Florence School of Banking and Finance; Banking Supervision Policy
Cite
FISCHER, Johannes Jacob, KESSLER, Natalie, Optimal severity of stress test scenarios, EUI, RSC, Working Paper, 2024/52, Florence School of Banking and Finance, Banking Supervision Policy - https://hdl.handle.net/1814/77414
Abstract
Regularly conducted stress tests constitute a constraint on bank balance sheets: future equity must suffice to maintain current lending even after absorbing severe losses. Studying such a forward-looking constraint in a representative bank model, we show that a stricter stress test scenario leads to lower dividends, higher equity buffers, and lower, albeit less volatile, lending. Given this trade-off, the optimal scenario implies capital buffers of up to 6% when facing loan returns similar to those of large U.S. banks. Finally, we show that complementing stress tests with dividend restrictions improves lending stability, while relaxing counter-cyclical capital buffers does not.
Table of Contents
Additional Information
This paper is part of the Banking Supervision Policy Working Paper Series in the context of the SSM-EUI partnership on SSM Banking Supervision Learning Services.