Model Secrecy and Stress Tests

57 Pages Posted: 15 Jun 2020 Last revised: 3 Sep 2020

See all articles by Yaron Leitner

Yaron Leitner

Washington University in St. Louis, Olin Business School

Basil Williams

New York University (NYU)

Multiple version iconThere are 2 versions of this paper

Date Written: May 19, 2020

Abstract

We study whether regulators should reveal the models they use to stress test banks. In our setting, revealing leads to gaming, but not revealing can induce banks to under-invest in socially desirable assets for fear of failing the test. We show that although the regulator can solve this under-investment problem by making the test easier, some disclosure may still be optimal, which under some conditions takes the simple form of a cutoff rule. We characterize the optimal disclosure policy combined with test difficulty, provide comparative statics, and relate our results to recent policies. We also offer applications beyond stress tests.

Keywords: Stress Tests, Bayesian Persuasion, Information Disclosure, Delegation, Bank Incentives, Fed Models

JEL Classification: D82, G01, G28

Suggested Citation

Leitner, Yaron and Williams, Basil, Model Secrecy and Stress Tests (May 19, 2020). Available at SSRN: https://ssrn.com/abstract=3606654 or http://dx.doi.org/10.2139/ssrn.3606654

Yaron Leitner (Contact Author)

Washington University in St. Louis, Olin Business School

United States

Basil Williams

New York University (NYU) ( email )

19 W 4th Street
New York, NY 10003-711
United States

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