The Financial Stability Institute (FSI) of BIS published a brief note that examines the adjustments to stress tests in response to the COVID-19 pandemic. The note discusses how three authorities in UK, EU, and US (BoE, ECB, and FED, respectively) have adjusted the regular stress testing exercises to provide an initial assessment of the impact of the pandemic on the banking sector. The brief concludes with reflections about the relevance of stress tests during the pandemic and the possible expansion of the use of stress testing from a first-response tool to a more a precise instrument that can be applied to individual banks.
In response to the COVID-19 pandemic, three authorities (BoE, ECB, and FED) that regularly conduct stress tests on individual banks adjusted their approach. They performed ad hoc exercises to assess the vulnerability of banking sectors in their jurisdictions. The ad hoc exercises were conducted mid-year, following a rapid deterioration in economic conditions that had emerged by the end of the first quarter of 2020. These exercises were different from the regular stress tests in terms of key features such as objectives, design, methodologies, and communication. However, some of the features of the regular stress tests did not change. The brief includes a table that summarizes the approach taken by the authorities that decided to conduct a first round of these ad hoc exercises. In all cases, the exercises comprised only the top-down component and banks were not involved. Also, the COVID-19-related policy response was incorporated into the three ad hoc stress tests in different ways.
The analysis concluded that stress tests, being forward-looking assessments of bank resilience, represent a useful instrument in the toolkit of authorities to assess condition of banks even under unusual circumstances such as the ones created by the COVID-19 pandemic. The experience of the three exercises discussed in the brief showed, however, the difficulties of adjusting a complex exercise such as an annual stress test to a very different set of conditions. In response to the COVID-19 pandemic, stress tests can, in the first instance, help gauge the system-wide impact of the pandemic on the banking sector. This can help authorities in comparing the economic impact of the pandemic against the capacity of the banking sector to continue supporting the real economy by providing credit to it. However, over time, it may be important to have a more granular view of the impact of pandemic on individual banks. This in turn will help guide any possible supervisory or resolution action. For this to happen, the initial adjustments in the stress testing frameworks that were introduced in first response to the pandemic would benefit from further refinement. Importantly, stress tests under COVID-19 can be most effective when authorities explain the objectives of these exercises and ensure that they are well-aligned with the way the results will be employed and shared with the banks and the public.
Keywords: International, Americas, Europe, EU, UK, Banking, COVID-19, Stress testing, Basel, BoE, ECB, FSI, BIS
Previous ArticleEIOPA Finalizes Guidelines on ICT Security and Governance
In a letter addressed to the industry, the Australian Prudential Regulation Authority (APRA) set out an updated schedule of policy priorities for the banking, insurance, and superannuation industries.
The European Commission (EC) adopted a comprehensive review package of Solvency II rules in the European Union.
The Office of the Comptroller of the Currency (OCC) issued Versions 1.0 of the "Earnings" and "Regulatory Reporting" booklets of the Comptroller's Handbook.
The European Central Bank (ECB) published results of its economy-wide climate stress test, which aimed to assess the resilience of non-financial corporates and euro area banks to climate risks.
The European Banking Authority (EBA) published a report on the use of digital platforms in the banking and payments sector in European Union.
The Hong Kong Monetary Authority (HKMA) published updates on the policy measures that were announced in context of the ongoing pandemic.
The International Swaps and Derivatives Association (ISDA), along with several other associations, submitted a joint response to the Basel Committee on Banking Supervision (BCBS) consultation on preliminary proposals for the prudential treatment of cryptoasset exposures.
BIS published the September issue of the Quarterly Review, which contains special features that analyze the rapid rise in equity funding for financial technology firms, the effectiveness of policy measures in response to pandemic, and the evolution of international banking.
The Basel Committee for Banking Supervision (BCBS) met in September 2021 and reviewed climate-related financial risks, discussed impact of digitalization, and welcomed efforts by the International Financial Reporting Standards (IFRS) Foundation to develop a common set of sustainability reporting standards
The Office of the Comptroller of the Currency (OCC) issued a Cease and Desist Order against MUFG Union Bank for deficiencies in technology and operational risk governance.