Model Secrecy and Stress Tests
36 Pages Posted: 26 Nov 2017
Date Written: 2017-11-22
Conventional wisdom holds that the models used to stress test banks should be kept secret to prevent gaming. We show instead that secrecy can be suboptimal, because although it deters gaming, it may also deter socially desirable investment. When the regulator can choose the minimum standard for passing the test, we show that secrecy is suboptimal if the regulator is sufficiently uncertain regarding bank characteristics. When failing the bank is socially costly, then under some conditions, secrecy is suboptimal when the bank's private cost of failure is either sufficiently high or sufficiently low.
Keywords: stress tests, information disclosure, delegation, bank incentives, Fed models
JEL Classification: D82, G01
Suggested Citation: Suggested Citation