Stress Testing
Stress testing is a supervisory tool used to evaluate how banks perform under adverse economic scenarios.
Meaning in Practice
Regulators simulate severe macroeconomic shocks to assess capital adequacy and resilience. Banks project losses, revenues, and capital ratios under hypothetical stress conditions. Results guide supervisory actions and capital planning.
Why It Matters
Stress testing enhances transparency and risk awareness. It identifies vulnerabilities before crises materialize. Strong results support market confidence in the banking system.
Market Impact
Weak stress test outcomes can pressure bank share prices and funding costs. Strong performance may improve investor confidence. Markets closely monitor published results.
Example
A regulator models a deep recession scenario and evaluates whether banks maintain sufficient capital buffers after projected loan losses.