When Banks Punch Back: Macrofinancial Feedback Loops in Stress Tests

66 Pages Posted: 30 Jun 2020

See all articles by Mario Catalan

Mario Catalan

affiliation not provided to SSRN

Alexander Hoffmaister

International Monetary Fund (IMF)

Date Written: May 2020

Abstract

In the presence of adverse macroeconomic shocks, simultaneous capital losses in multiple banks can prompt them to contract their balance sheets. These bank responses generate externalities that propagate in the form of macro-financial feedback loops. This paper develops a credit response and externalities analysis model (CREAM) that integrates a disaggregated banking sector into an otherwise standard macroeconomic structural vector autoregressive model. It shows that accounting for macro-financial feedback loops can significantly affect macroeconomic outcomes and bank-specific stress tests results. The heterogeneity in bank lending responses matters: it determines how each bank fares under adverse conditions and the external effects that banks impose on each other and on economic activity. The model can thus be used to assess the contributions of individual banks to systemic risk along the time dimension.

Keywords: Financial crises, Bank credit, Interest rates on loans, Market interest rates, Interest rate differential, Stress tests, macroeconomic shocks, banking sector, modeling, WP, quasi-static, lend rate, individual bank, externality, systemic risk

JEL Classification: E44, G21, E01, E52, O24, G12

Suggested Citation

Catalan, Mario and Hoffmaister, Alexander, When Banks Punch Back: Macrofinancial Feedback Loops in Stress Tests (May 2020). IMF Working Paper No. 20/72, Available at SSRN: https://ssrn.com/abstract=3638521

Mario Catalan (Contact Author)

affiliation not provided to SSRN

No Address Available

Alexander Hoffmaister

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

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