The U.S. Federal Reserve Bank (FED) and the Office of the Comptroller of the Currency (OCC) released hypothetical scenarios for the 2022 annual stress tests for banks. FED published the Baseline and Severely Adverse scenarios, with each scenario including 28 variables covering domestic and international economic activity. As stated by FED, this year, 34 large banks will be tested against a severe global recession, with heightened stress in commercial real estate and corporate debt markets. OCC notes that Category III banks are also required to submit stress testing in 2022.
FED explains that, in addition to the hypothetical scenarios, banks with large trading operations will be tested against a global market shock component that primarily stresses their trading positions. Moreover, banks with substantial trading or custodial operations will be tested against the default of their largest counterparty. Both the published scenarios start in the first quarter of 2022 and extend through the first quarter of 2025. The baseline scenario follows a profile similar to average projections from a survey of economic forecasters. The severely adverse scenario describes a hypothetical set of conditions designed to assess the strength and resilience of banking organizations in an adverse economic environment. In the 2022 stress test scenario, the U.S. unemployment rate rises 5 3/4 percentage points to a peak of 10% over two years. The large increase in the unemployment rate is accompanied by a 40% decline in the commercial real estate prices, widening corporate bond spreads, and a collapse in asset prices, including increased market volatility. The stress tests of FED help ensure that large banks are able to lend to households and businesses even in a severe recession. The stress tests evaluate the financial resilience of large banks by estimating bank losses, revenues, expenses, and resulting capital levels—which provide a cushion against losses—under the hypothetical recession scenarios into the future. FED uses results of the supervisory stress test under the supervisory severely adverse scenario to set capital requirements for large banks.
Keywords: Americas, US, Banking, Stress Testing Scenarios, Stress Testing, Baseline Scenario, Severely Adverse Scenario, Basel, FED
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