Design of Macro-Prudential Stress Tests

75 Pages Posted: 1 Jun 2017 Last revised: 18 May 2018

See all articles by Dmitry Orlov

Dmitry Orlov

University of Rochester - Simon Business School

Pavel Zryumov

University of Rochester - Simon Business School

Andrzej Skrzypacz

Stanford University - Stanford Graduate School of Business

Date Written: May 3, 2018

Abstract

We study the design of stress tests that provide information about systemic risk in banks’ portfolios and impose contingent capital requirements to prevent bankruptcies. The optimal stress test discloses information partially: when risk is low, capital requirements reflect full information and set mild restrictions on dividend issuance; when risk is high, the test is not fully transparent and requires banks to hold precautionary liquidity. With heterogeneous banks, optimal stress tests reveal information gradually and require weak banks raise capital first. The results are robust to allowing bailouts and equity issuance. We discuss how stress tests interact with ex-ante portfolio choice.

Keywords: Stress Tests, Systemic Risk, Capital Requirements, Information Design, Dynamic Disclosure

JEL Classification: G01, G28, D61, D83

Suggested Citation

Orlov, Dmitry and Zryumov, Pavel and Skrzypacz, Andrzej, Design of Macro-Prudential Stress Tests (May 3, 2018). Simon Business School Working Paper No. FR 17-14; Stanford University Graduate School of Business Research Paper No. 17-41. Available at SSRN: https://ssrn.com/abstract=2977016 or http://dx.doi.org/10.2139/ssrn.2977016

Dmitry Orlov (Contact Author)

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States

HOME PAGE: http://mentalexperiments.wordpress.com

Pavel Zryumov

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States

Andrzej Skrzypacz

Stanford University - Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States
650-736-0987 (Phone)
650-725-9932 (Fax)

Register to save articles to
your library

Register

Paper statistics

Downloads
313
Abstract Views
1,228
rank
95,070
PlumX Metrics