Do Stress Tests Pass the Test?

6 Pages Posted: 31 Mar 2016

See all articles by Thomas Huertas

Thomas Huertas

Goethe University Frankfurt - Institute of Law and Finance; Center for Financial Studies

Date Written: December 15, 2015

Abstract

Stress tests have two purposes. From a micro-prudential perspective, they aim to assure that banks have enough capital now to withstand the losses they might incur in the future, if the macro-economic environment were to become markedly more adverse. From a macro-economic perspective, stress tests aim to assure that banks will have enough capital to sustain lending in the downturn, so that any recession will be short and shallow. In other words, stress tests aim to assure that both banks and the economy at large will be resilient. Can stress tests assure such an outcome? Do stress tests themselves pass the test? Here, the jury is still out, although both theory and evidence suggest that stress tests are more likely to pass the micro-prudential test than the macro-prudential one. That in turn implies that stress tests are here to stay as a supervisory tool – a fact that banks would do well to take into account in managing their data, developing their models and managing their capital and liquidity.

Keywords: stress tests, bank supervision, bank capital, macroprudential supervision

JEL Classification: G18, G21, G28

Suggested Citation

Huertas, Thomas, Do Stress Tests Pass the Test? (December 15, 2015). Available at SSRN: https://ssrn.com/abstract=2706174 or http://dx.doi.org/10.2139/ssrn.2706174

Thomas Huertas (Contact Author)

Goethe University Frankfurt - Institute of Law and Finance ( email )

Campus Westend - Grüneburgplatz 1
Frankfurt, 60323
Germany

Center for Financial Studies ( email )

Grüneburgplatz 1
Goethe University
Frankfurt am Main, 60323
Germany

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