Stress Testing and Bank Business Patterns: A Regression Discontinuity Study

76 Pages Posted: 20 Aug 2020

See all articles by Raffi E. García

Raffi E. García

Rensselaer Polytechnic Institute

Suzanne Steele

affiliation not provided to SSRN

Date Written: July 25, 2020

Abstract

This paper examines whether forward-looking disclosure requirements impact firm business patterns. We rely on the implementation of the Comprehensive Capital Analysis Review (CCAR) stress test on U.S. bank holding companies as our identification strategy. Using a regression discontinuity design to exploit the quasi-experimental properties of the regulation around the different bank-size policy thresholds, we document four key findings. First, stress testing reduces moral hazard by decreasing the risk-weighted assets percentage. Second, the decrease in moral hazard is not at the expense of bank lending since reducing risk results in higher concentrations in lending as banks shift out of higher-risk assets. Third, stress test banks' lower risk is perceived by investors and results in lower funding costs relative to non-stress test banks. Fourth, the increase in regulatory oversight and stricter capital and transparency requirements do not cause large banks to manipulate their bank size to avoid complying with the stress test requirements. These results are consistent with the optimality condition in the banking sector.

Keywords: Banking, Stress Tests, Regulation, Capital Requirements, Credit Supply, Regression Discontinuity

JEL Classification: G20, G21, G28, G30, G31

Suggested Citation

García, Raffi E. and Steele, Suzanne, Stress Testing and Bank Business Patterns: A Regression Discontinuity Study (July 25, 2020). Available at SSRN: https://ssrn.com/abstract=3660294 or http://dx.doi.org/10.2139/ssrn.3660294

Raffi E. García (Contact Author)

Rensselaer Polytechnic Institute ( email )

Troy, NY 12180
United States
12180 (Fax)

HOME PAGE: http://https://sites.google.com/site/raffigarcia/

Suzanne Steele

affiliation not provided to SSRN

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