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### Executive summary — key findings and outcomes
- The 2011 solvency stress testing and recapitalization exercises improved consistency checks, transparency (for example, regarding sovereign exposures), and applied higher hurdle rates compared with 2010.
- The exercises prompted banks to increase the quantity and quality of their capitalization.
- Banks raised more than €200 billion as a result of the recapitalization exercise.
- Despite recapitalization, confidence in European banks was not fully restored because markets suspected insufficient transparency about losses and exposures to problem sectors.
- The 2013 exercise is planned to use three-year projections under a baseline and a stressed scenario and emphasize supervisory assessment of banks’ capital plans during transition to CRD IV rather than pass/fail metrics.
- As the crisis acuteness diminishes, identification of funding risks and structural weaknesses (low profitability and growth, impact of regulatory changes) gains importance.

### Executive summary — main recommendations (responsibilities noted)
- Continue development of efficiency and effectiveness of consistency checks (for example, by facilitating timely communication and agreement on templates).
- Continue to publish a wide range of detailed information on participating banks, especially on their reference period condition and (sovereign) exposures.
- Recognize full risks attached to all banks’ sovereign securities’ exposure as in the 2011 EBA recapitalization exercise; at a minimum relevant data should be published.
- Move to standardize definitions of nonperforming loans (NPLs), loan classifications, provisioning, etc., while initiating reviews of input asset quality data. (NSAs responsible for provision of consistent banking sector data; EBA coordinates and drives activities.)
- Implement checks on sensitivity of results to model assumptions and bank circumstances, including sensitivity to differences in asset quality and definitions.
- Further refine benchmarks and satellite models, especially regarding pre-impairment income, risk-weighted assets (RWA), and funding costs to ensure comparability and consistency across banks’ bottom-up results.
- Ensure 2013 stress testing generates operational recommendations and supporting indicators for supervisors rather than being reduced to a perception of a pass/fail metric.
- Incorporate banks’ funding and capitalization plans in stress test projections, including effects of the phase out of LTRO; assess sensitivity to likely changes in balance sheet composition rather than assuming static balance sheets.
- Ensure full coordination between future EBA, ECB and ESRB stress testing exercises. For 2013, ECB could be active in macro projections, top-down stress testing, and review of input asset quality data.
- Continue EBA coordination of EU-wide stress tests under the SSM, working with ECB and NSAs and ensuring quality control. Over medium term shift some EBA efforts to structural issues and funding vulnerabilities and avoid competing EBA, ECB/SSM and ESRB stress tests.
- Following the 2011 internal EBA liquidity risk assessment, develop further liquidity stress testing (including cash flow-based approaches) and make use of CRD IV reporting templates; ensure disclosure and transparency of reporting templates and overall liquidity stress testing approach, while safeguarding sensitive results.

### Key statistics and past exercise results
- The second EU-wide stress test (July 2011) identified €25bn of capital shortfall using a single adverse macro scenario.
- Banks raised €50 billion fresh capital in the first four months of 2011.
- The EBA recapitalization exercise set a target of 9 percent core Tier 1 (CT1) by end-June 2012.
- The aggregate capital shortfall after including the sovereign capital buffer amounted to €115 billion for 37 banks (out of 71 banks in the sample), including those under restructuring.
- Largest shortfalls by country: Greek banks €30 billion; Spain €26 billion; Italy €15 billion; Germany €13 billion.
- Excluding banks under deep restructuring (Dexia, Volksbank and WestLB) and Greek banks as well as Bankia, 27 banks had a capital shortfall totaling €76 billion.
- The recapitalization exercise led to an additional €200 billion in capital generation or release by June 2012.

### Lessons on transparency and market treatment of sovereign exposures
- For 2011, EBA’s board decided not to include market risk haircuts to banks’ sovereign exposures in the banking book but did publish relevant data; only trading book sovereign holdings were subject to MTM.
- Given the intensification of the euro area sovereign debt crisis, excluding MTM on banking book sovereigns was debated and criticized.
- Enhanced disclosure of sovereign exposures allowed market analysts to calculate their own sovereign haircuts and estimate capital shortfalls.
- The recapitalization exercise applied MTM to all sovereign securities’ holdings, increasing credibility.
- Basel III envisages MTM for trading and AFS books with a gradual phase-in; HTM would not be subject to MTM. At minimum, relevant data should be published.

### Role, objectives and design of the 2013 bank solvency stress testing exercise
- Stress testing is an essential tool for financial sector stability analysis and policy development and is most valuable when tied to concrete and swift supervisory and managerial actions.
- Authorities decided a coordinated bank solvency stress testing exercise would focus more on supervisory issues and less on a pass/fail metric.
- Planned timing: mainly second half of 2013 with preparatory work to begin as soon as possible.
- Main supervisory issue: assessment of realism, consistency and robustness of banks’ capital plans to meet phased-in capital requirements under CRD IV, which will affect minimum capitalization levels, definitions of capital, and definition of RWA.
- The exercise is likely to involve three-year projections under a baseline and a stressed scenario.
- A major objective is to generate detailed analysis relevant to assessment of banks’ capital plans during the transition to CRD IV, rather than producing pass/fail results based on a single metric.
- Effort will be devoted to ensuring consistent methodology application while reducing costs to participating banks.

### Publication and transparency practices recommended
- Publication of detailed data in the 2011 stress testing and recapitalization exercises (over 3,000 series, notably on sovereign exposures) markedly reduced uncertainty and increased credibility.
- Analysts will assess banks assuming the immediate full implementation of CRD IV; lack of relevant data would increase market skepticism.
- Authorities should publish bank-by-bank data covering the initial situation of individual banks at the reference date; there should be a presumption that test results will be published in detail.
- Some details may remain confidential (e.g., supervisory recommendations tied to business planning or funding plans), but market-sensitive confidentiality should not be automatic; consistent treatment across banks is essential.
- Full disclosure of banks’ sovereign exposures (including banking book: AFS and HTM) is essential; the 2011 EBA recapitalization exercise marked to market (MTM) sovereign securities in the banking book.
- If current market conditions persist, sovereign exposures are likely to be a smaller source of losses in the baseline of the 2013 exercise; a relapse to recent peak sovereign spreads would be plausible but not very extreme.
- Publication of sensitivity analysis results may be confusing and could lead markets to penalize banks that perform poorly in sensitivity tests; experience from 2011 sensitivity tests is relevant.

### Consistency, quality control and input data review
- Three main quality control mechanisms used in 2011: banks’ own controls; NSAs’ supervisory judgment; and EBA-led Quality Assurance Task Force (QATF) with secondees from NSAs, ECB and ESRB.
- EBA improved off-site review by checking bank input data for errors, ensuring correct adoption and application of methodologies, and using statistical benchmarks (mainly cross-sectional) for PDs, LGDs, and default rates by counterparty, country and sector.
- The ECB/ESRB top-down stress test served as an essential benchmark for banks’ bottom-up results.
- Program-country banking systems have undergone detailed Asset Quality Reviews (AQRs) providing a solid base; non-program countries’ data may contain important flaws and inconsistencies.
- Sources of inconsistency despite IFRS and audits: IFRS allows room for local differences (e.g., NPL or renegotiated loan definitions); interpretation differences across countries, banks, or over time; forbearance practices may mask problem loans.
- A full-blown EU-wide AQR would be very expensive, time-consuming, and possibly counter-productive.
- Recommendation: EBA-coordinated rapid progress in unifying definitions of NPLs and provisioning criteria; full implementation could occur after the 2013 stress test.
- Conduct a limited review of input data focused on asset quality and problem sectors without unduly impeding the stress test.
- EBA is considering selecting one specific asset portfolio (which may differ by country) for an asset classification review as input to the 2013 stress test; candidate portfolios include commercial real estate, small to medium enterprises, forborne residential mortgages, or level 3 trading book assets.
- Review should complement enhanced consistency checks built into stress testing procedures.
- Communication strategy: define limited, achievable objectives (e.g., review a significant sample of exposures in one problem sector per country) achievable within six to nine months and launch stress testing when met; methodological work can proceed in parallel.
- Credibility enhanced by outside evaluators or peer reviewers.
- Authorities should plan in advance for possibility that the exercise reveals sizable capitalization holes; options include immediate remedial supervisory action and excluding affected banks from the regular stress test.
- Consider alternative nomenclature (e.g., “asset quality data exercise” or “input data review”) to distinguish effort from comprehensive AQRs in program countries.

### Refinement of satellite models and modelling priorities
- Series that were difficult to model in 2011 and need further research: non-interest, non-trading income; trading income; funding costs; risk weighted assets (RWA).
- Non-interest, non-trading income: increasingly important and potentially disproportionately sensitive in a severe downturn; EBA guidance on fee income projections may be warranted for the adverse scenario.
- Trading income: depends on banks’ own-account trading; revaluation at scenario prices may be preferable to satellite models that inadequately capture trading income.
- Funding costs: depend on exogenous macro conditions like sovereign credit ratings and on banks’ own situation. Box 2: 2011 EBA solvency stress test incorporated a cost of funding shock linked to sovereign stress, assumed static balance sheets and stable funding needs; funding costs did not depend on changes in a bank’s projected situation.
- Missing in 2011: feedback link between banks’ capital buffers and funding costs; establishing funding-cost–capital links would benefit from panel data to capture dynamic, non-linear relationships.
- For 2013, refine cost of deposit channel and funding-cost methodology, ideally incorporating banks’ internal pricing mechanisms and hedging practices.
- 2011 exercise considered only sovereign assets as collateral for central bank and wholesale funding, not corporate or bank bonds; sovereign collateral value drop did not cover a wide range of collateral assets and did not include ECB haircuts.

### Supervisory focus, static balance sheet approach, and robustness checks
- The forthcoming stress testing exercise is meant to be mainly for supervisory purposes, shifting emphasis from crisis management and pass/fail metrics to supervisory assessment of capital plans.
- Approach: Each bank will provide its dynamic capital plan and data on its balance sheet positions at the reference period, which will probably be end-2012, and projections of profit and loss under the provided baseline and stress scenarios and satellite model guidance, but with a static balance sheet.
- Rationale for static balance sheet over three years: tractability and facilitation of comparability across banks; simpler methodology and consistency checks.
- Procedure: authorities will substitute projected losses from scenarios into the bank’s capital plan and assess whether capitalization falls below, or close to, CRD IV minimum requirements, which are progressively tighter due to phase-in.
- If a bank’s plan looks precarious or based on implausible assumptions, the supervisor would demand a revision.
- Key drawbacks of static balance sheet:
  - May lead market analysts to treat results as a “beauty contest” and identify under-capitalized banks.
  - Inconsistency with treatment of banks under restructuring plans agreed under EU state aid rules.
  - Inconsistency between macro projections (where monetary and financial aggregates change) and static balance sheet assumptions.
  - Potential irrelevance for evaluating banks’ plans that involve significant balance sheet adjustments.
- Guidance could be provided on evolution of major balance sheet components consistent with the macro scenario (e.g., aggregate growth in deposits and credit by country, use of loan-to-deposit limits).
- Banks should be discouraged from relying on “deus ex machina” (e.g., sale of an unprofitable business at a handsome price).
- As in 2011, banks should not be allowed to optimize their RWAs.
- Suggested robustness checks and sensitivity tests:
  - Re-running top-down tests with slight variations in the macro scenario or satellite models to assess variability and non-linear responses.
  - Top-down analysis to quantify effects of changing balance sheet size and competition to reflect projected aggregate changes (e.g., money supply and credit stock evolution), banks’ own plans, and element consistency.
  - Tests for sensitivity to variations in input data.
- It might be useful to use the ECB/ESRB top-down stress test for country-specific sensitivity analysis of the adverse macroeconomic scenario.

### Liquidity, structural priorities and asset encumbrance
- As systemic stress recedes, funding risks and structural weaknesses (low profitability, slow growth, regulatory impacts) will be increasingly important.
- Funding remains problematic for some banks due to reliance on official funding and asset encumbrance.
- Liquidity stress testing should be developed further, including cash flow-based approaches and use of CRD IV reporting templates; disclosure and transparency of templates and approaches should be ensured while safeguarding sensitive results.
- Over the medium term, EBA should shift some efforts to testing structural issues and funding vulnerabilities; stress tests could incorporate longer-term and cross-sector factors (for example contingent claims analysis and inclusion of nonbank financial institutions) to inform macro-prudential calibration.
- Avoid competing EBA, ECB/SSM and ESRB stress tests; ensure coordination and clear division of roles (ECB to run supervisory tests for SSM banks; ESRB to focus on macro-prudential issues).
- Asset encumbrance summary:
  - Excessive asset encumbrance lowers bank resilience to funding shocks by constraining access to funding backed by suitable collateral and may subordinate unsecured creditors such as depositors.
  - Tightening of central bank collateral requirements can reduce unencumbered eligible collateral dangerously low.
  - ESRB survey of 53 European banks finds large dispersion and significant constraints for a subset of banks; increased ECB liquidity provision contributed to very high encumbrance levels among some banks, especially in the periphery.
  - ESRB proposed actions: improve related risk management in banks, enhance supervisory monitoring on asset encumbrance, and market transparency; ESRB recommends EBA develop guidelines.
  - For the longer run, ESRB will consider a formal encumbrance framework to alleviate pro-cyclicality of excessive asset encumbrance.

### Approaches to liquidity stress testing — cash flow–based templates and integration with solvency
- Advantages of cash flow–based liquidity stress tests:
  - Detailed liquidity analysis capturing funding resilience and liquidity risk bearing capacity.
  - Supports detailed maturity buckets and adaptation to different currencies.
  - Separates liquidity risk exposure (net funding gap, cumulated net funding gap) and liquidity risk bearing capacity.
  - Incorporates securities flows and consistency between cash-flows and securities flows.
  - Explicitly models unsecured and secured wholesale funding and off-balance sheet activities such as FX swaps or credit and liquidity lines.
  - Aligns with internal EBA liquidity risk assessment practice (2011) and forthcoming EBA cash flow based maturity mismatch template.
- Weaknesses and implementation considerations:
  - High data intensity and initial set-up costs.
  - Regulatory liquidity ratios are often based on stock accounting data with less data granularity than cash flow templates.
  - Phase-in of EBA cash flow based maturity mismatch templates requires standardized templates to be regularly filled out and reported.
  - Suggested rollout: EBA staff, with NSA colleagues, should have access to banks for a consulting/feedback process and direct interaction with banks’ liquidity risk managers.
- Literature and model approaches cited (select findings):
  - Schmieder et al. (2012): Excel-based framework linking liquidity tests to solvency and simulating increases in funding costs from solvency changes.
  - Hesse, Salman and Schmieder (2013, forthcoming): scenario design and integrated macro-financial scenarios considering solvency and liquidity jointly.
  - IMF GFSR (2012a, 2012b): dynamic deleveraging analysis including assumed funding shock on deposits and wholesale funding.
  - Jobst (2012) SRL model; Van den End (2008) Monte Carlo framework; Wong & Hui (2009); Barnhill & Schumacher (2011); RAMSI (Aikman et al., 2009); Basel Research Task Force ongoing work on solvency–liquidity linkage.
- Integrating liquidity and solvency risks; bank reactions:
  - Banks’ responses include using high-quality capital and profits, generating liquid assets via eligible securities as collateral, fire sales, deleveraging, debt-to-equity conversions, issuance of convertibles, optimizing RWAs.
  - Importance of modeling bank reactions for informative stress tests, especially over longer horizons, since reactions have both capital and liquidity aspects that are tightly linked.
  - Two-round approach: bottom-up first round to capture bank-level reactions; top-down second round to impose quantified haircuts or roll-over reductions based on BU responses, historical data, cross-country experience, or expert judgment.
- Practices and examples by authorities and FSAPs:
  - ECB: incorporates funding and liquidity stress in EBA solvency tests and embeds an explicit funding volume shock in its macro stress testing framework; assumed that European banks can only refinance 50 percent of their wholesale funding maturing in 2012–2013 in one contagion/deleveraging scenario; deposit withdrawal rates range between 0 percent for AAA countries to 20 percent for countries below investment grade; scenario leads to a 0.2 euro area GDP decline in 2012 and of 0.7 in 2013, relative to a baseline of -0.3 and 1 percent respectively; baseline average core Tier 1 ratio of 9.3 percent at end–2013 falls to 7 percent under the scenario; adding an additional domestic demand shock lowers core Tier 1 to 6.4 percent; adding the EBA mandated temporary sovereign buffer increases core Tier 1 from 7 to 7.4 percent.
  - IMF FSAPs: mix of stock and cash flow approaches across country FSAPs (Spain, U.K., Germany, France, U.S.).
  - OeNB and Austrian authorities: required weekly cash flow based reporting during 2008 crisis; forward-looking templates with contractual cash flows and expected counterbalancing capacity, currency distinction, standardized templates enabling simulation of common shocks.
- Basel III context:
  - The Basel III liquidity coverage ratio (LCR) amounts to a quasi-liquidity stress test; its phase in period from 2015 could compel many European banks to close their current funding gaps.
  - LCR can be viewed as a 30-day medium shock stress test.
  - The Net Stable Funding Ratio (NSFR) is under review by the Basel Committee.
  - Banks with an estimated LCR shortfall have funding-plan options: lengthen unsecured wholesale funding beyond 30 days, promote deposits, reduce costly uncommitted credit lines, increase proportion of liquid assets, deleverage activities funded by short-term liquidity.

*International Monetary Fund — Monetary and Capital Markets Department (Technical Note: Financial Sector Assessment Program — European Union, March 2013).*

### 2013. The views expressed in this document are those of the staff team and do not necessarily reflect

### FINANCIAL SECTOR ASSESSMENT PROGRAM — STRESS TESTING OF BANKS: TECHNICAL NOTE (MARCH 2013)

### Executive Summary — Key findings and outcomes
- The 2011 solvency stress testing and recapitalization exercises improved consistency checks, transparency (for example, regarding sovereign exposures), and applied higher hurdle rates compared with 2010.
- The exercises prompted banks to increase the quantity and quality of their capitalization.
- Banks raised more than €200 billion as a result of the recapitalization exercise.
- Despite recapitalization, confidence in European banks was not fully restored because markets suspected insufficient transparency about losses and exposures to problem sectors.
- The 2013 exercise is planned to use three-year projections under a baseline and a stressed scenario and emphasize supervisory assessment of banks’ capital plans during transition to CRD IV rather than pass/fail metrics.
- As the crisis acuteness diminishes, identification of funding risks and structural weaknesses (low profitability and growth, impact of regulatory changes) gains importance.

### Executive Summary — Main recommendations (responsibilities noted)
- Continue development of efficiency and effectiveness of consistency checks (for example, by facilitating timely communication and agreement on templates).
- Continue to publish a wide range of detailed information on participating banks, especially on their reference period condition and (sovereign) exposures.
- Recognize full risks attached to all banks’ sovereign securities’ exposure as in the 2011 EBA recapitalization exercise; at a minimum relevant data should be published.
- Move to standardize definitions of nonperforming loans (NPLs), loan classifications, provisioning, etc., while initiating reviews of input asset quality data. (NSAs responsible for provision of consistent banking sector data; EBA coordinates and drives activities.)
- Implement checks on sensitivity of results to model assumptions and bank circumstances, including sensitivity to differences in asset quality and definitions.
- Further refine benchmarks and satellite models, especially regarding pre-impairment income, risk-weighted assets (RWA), and funding costs to ensure comparability and consistency across banks’ bottom-up results.
- Ensure 2013 stress testing generates operational recommendations and supporting indicators for supervisors rather than being reduced to a perception of a pass/fail metric.
- Incorporate banks’ funding and capitalization plans in stress test projections, including effects of the phase out of LTRO; assess sensitivity to likely changes in balance sheet composition rather than assuming static balance sheets.
- Ensure full coordination between future EBA, ECB and ESRB stress testing exercises. For 2013, ECB could be active in macro projections, top-down stress testing, and review of input asset quality data.
- Continue EBA coordination of EU-wide stress tests under the SSM, working with ECB and NSAs and ensuring quality control. Over medium term shift some EBA efforts to structural issues and funding vulnerabilities and avoid competing EBA, ECB/SSM and ESRB stress tests.
- Following the 2011 internal EBA liquidity risk assessment, develop further liquidity stress testing (including cash flow-based approaches) and make use of CRD IV reporting templates; ensure disclosure and transparency of reporting templates and overall liquidity stress testing approach, while safeguarding sensitive results.

### Key statistics and past exercise results
- The second EU-wide stress test (July 2011) identified €25bn of capital shortfall using a single adverse macro scenario.
- Banks raised €50 billion fresh capital in the first four months of 2011.
- The EBA recapitalization exercise set a target of 9 percent core Tier 1 (CT1) by end-June 2012.
- The aggregate capital shortfall after including the sovereign capital buffer amounted to €115 billion for 37 banks (out of 71 banks in the sample), including those under restructuring.
- Largest shortfalls by country: Greek banks €30 billion; Spain €26 billion; Italy €15 billion; Germany €13 billion.
- Excluding banks under deep restructuring (Dexia, Volksbank and WestLB) and Greek banks as well as Bankia, 27 banks had a capital shortfall totaling €76 billion.
- The recapitalization exercise led to an additional €200 billion in capital generation or release by June 2012.

### Lessons on transparency and market treatment of sovereign exposures
- For 2011, EBA’s board decided not to include market risk haircuts to banks’ sovereign exposures in the banking book but did publish relevant data; only trading book sovereign holdings were subject to MTM.
- Given the intensification of the euro area sovereign debt crisis, excluding MTM on banking book sovereigns was debated and criticized.
- Enhanced disclosure of sovereign exposures allowed market analysts to calculate their own sovereign haircuts and estimate capital shortfalls.
- The recapitalization exercise applied MTM to all sovereign securities’ holdings, increasing credibility.

### Introduction — role and policy linkage
- Stress testing is an essential tool for financial sector stability analysis and policy development.
- Stress tests are valuable mainly when tied to concrete and swift supervisory and managerial actions that improve banks’ conditions and those of their clients.
- The note focuses on EBA-led bank stress testing, planned 2013 exercise, and associated data quality issues, with discussion of NSA, ECB and ESRB tests where Europe-wide relevance exists.
- Both solvency and liquidity aspects of stress testing are considered, and priorities are expected to evolve with the introduction of the SSM.

### Background — evolution of EU-wide stress tests and quality controls
- The 2010 CEBS-led exercise was poorly received: scenario viewed as too mild, limited disclosure, and sample included banks that later proved systemically risky.
- The 2011 EBA-led exercise incorporated lessons: stronger quality and consistency controls and improved transparency.
- Three main quality control mechanisms in 2011: banks’ own controls; NSAs’ supervisory judgment; and EBA-led Quality Assurance Task Force (QATF) with secondees from NSAs, ECB and ESRB to challenge consistency of bottom-up assumptions and results.
- EBA improved off-site review by checking bank input data for errors, ensuring correct adoption and application of methodologies, and using statistical benchmarks (mainly cross-sectional) for PDs, LGDs, and default rates by counterparty, country and sector.
- The ECB/ESRB top-down stress test served as an essential benchmark for banks’ bottom-up results.

### The 2013 Bank Solvency Stress Testing Exercise — objectives and design
- Authorities decided to conduct a coordinated bank solvency stress testing exercise focusing more on supervisory issues and less on a pass/fail metric.
- Planned timing: mainly second half of 2013 with preparatory work to begin as soon as possible.
- Main supervisory issue: assessment of realism, consistency and robustness of banks’ capital plans to meet phased-in capital requirements under CRD IV, which will affect minimum capitalization levels, definitions of capital, and definition of RWA.
- The exercise is likely to involve three-year projections under a baseline and a stressed scenario.
- Effort will be devoted to ensuring consistent methodology application while reducing costs to participating banks.
- A major objective is to generate detailed analysis relevant to assessment of banks’ capital plans during the transition to CRD IV, rather than producing pass/fail results based on a single metric.

### Quality control, transparency, and methodological refinements planned
- Continue use and development of consistency checks (timely communication and agreement on templates).
- Continue publishing detailed information on participating banks, especially reference period condition and sovereign exposures.
- Standardize definitions where possible (NPLs, loan classifications, provisioning) while recognizing cross-country and temporal differences in LGD rates.
- Conduct reviews of input asset quality data and checks on sensitivity of results to model assumptions and bank circumstances.
- Further refine benchmarks and satellite models for pre-impairment income, RWA, and funding costs.
- Incorporate banks’ funding and capitalization plans and assess sensitivity to balance sheet composition changes (including LTRO phase out).

### Liquidity and structural priorities going forward
- As systemic stress recedes, funding risks and structural weaknesses (low profitability, slow growth, regulatory impacts) will be increasingly important.
- Funding remains problematic for some banks due to reliance on official funding and asset encumbrance.
- Liquidity stress testing should be developed further, including cash flow-based approaches and use of CRD IV reporting templates; disclosure and transparency of templates and approaches should be ensured while safeguarding sensitive results.
- Over the medium term, EBA should shift some efforts to testing structural issues and funding vulnerabilities; stress tests could incorporate longer-term and cross-sector factors (for example contingent claims analysis and inclusion of nonbank financial institutions) to inform macro-prudential calibration.
- Avoid competing EBA, ECB/SSM and ESRB stress tests; ensure coordination and clear division of roles (ECB to run supervisory tests for SSM banks; ESRB to focus on macro-prudential issues).

*International Monetary Fund — Monetary and Capital Markets Department (Technical Note: Financial Sector Assessment Program — European Union, March 2013).*

### 9. The lessons from past stress testing exercises will have to be incorporated into

### 9. The lessons from past stress testing exercises will have to be incorporated into 

### Publication and Transparency
- Publication of detailed data in the 2011 stress testing and recapitalization exercises (over 3,000 series, notably on sovereign exposures) markedly reduced uncertainty and increased credibility.
- Analysts will assess banks assuming the immediate full implementation of CRD IV; lack of relevant data would increase market skepticism.
- Authorities should publish bank-by-bank data covering the initial situation of individual banks at the reference date; there should be a presumption that test results will be published in detail.
- Some details may remain confidential (e.g., supervisory recommendations tied to business planning or funding plans), but market-sensitive confidentiality should not be automatic; consistent treatment across banks is essential.
- Full disclosure of banks’ sovereign exposures (including banking book: AFS and HTM) is essential; the 2011 EBA recapitalization exercise marked to market (MTM) sovereign securities in the banking book.
- Basel III envisages MTM for trading and AFS books with a gradual phase-in; HTM would not be subject to MTM. At minimum, relevant data should be published.
- If current market conditions persist, sovereign exposures are likely to be a smaller source of losses in the baseline of the 2013 exercise; a relapse to recent peak sovereign spreads would be plausible but not very extreme.
- Analysts can calculate estimated haircuts on each bank’s total sovereign securities portfolio based on disclosed detailed banking data.
- Publication of sensitivity analysis results may be confusing and could lead markets to penalize banks that perform poorly in sensitivity tests; experience from 2011 sensitivity tests is relevant.

### Consistency and Quality Control Mechanisms
- Authorities have improved quality control mechanisms since 2011: reporting templates with checks and early contact between authorities and banks.
- The ECB top-down macro stress test should be prepared and used as a cross-check at an earlier stage; “clean up” data needs to be provided to the EBA earlier on.
- The ECB has indicated interest in closer involvement, including input data review; top-down tests can challenge banks’ bottom-up results and capture systemic and feedback effects.
- National Supervisory Authorities (NSAs) need to make quick but thorough checks of data upon receipt.
- EBA staff should be allowed direct contact with banks rather than communications solely through NSAs; NSA staff should participate in calls/meetings to avoid delays experienced in 2011.
- Build time series benchmarks for PDs, LGDs, and default rates by granular counterparties, countries, and sectors; ensure consistent application of point-in-time (PIT) estimates of PDs and LGDs.
- Banks should use PIT PD and LGD parameters for bottom-up stress tests, not through-the-cycle (TTC) equivalents, to ensure sensitivity to scenarios.

### Input Data Review
- Program-country banking systems have undergone detailed Asset Quality Reviews (AQRs) providing a solid base; non-program countries’ data may contain important flaws and inconsistencies.
- Sources of inconsistency despite IFRS and audits: IFRS allows room for local differences (e.g., NPL or renegotiated loan definitions); interpretation differences across countries, banks, or over time; forbearance practices may mask problem loans.
- Consistency does not imply uniformity — genuine differences (e.g., bankruptcy laws, loan work-out arrangements) can justify different PDs and LGDs.
- A full-blown EU-wide AQR would be very expensive, time-consuming, and possibly counter-productive; it could cast doubt on prior exercises and add complexity for assets outside the EU.
- Recommendation: EBA-coordinated rapid progress in unifying definitions of NPLs and provisioning criteria; full implementation could occur after the 2013 stress test.
- Authorities should provide guidance to national authorities and accounting and audit professions; provision of consistent and comparable banking sector data is primarily national supervisors’ accountability.
- Conduct a limited review of input data focused on asset quality and problem sectors without unduly impeding the stress test.
- EBA is considering selecting one specific asset portfolio (which may differ by country) for an asset classification review as input to the 2013 stress test; commercial real estate, small to medium enterprises, forborne residential mortgages, or level 3 trading book assets are candidate portfolios.
- Review should complement enhanced consistency checks built into stress testing procedures.
- Special concerns for review: lender forbearance, impairment deficiencies, risk weighting and RWA calculations by banks; collateral valuations and credit risk mitigation techniques; treatment of restructured loans; reliability of internal credit rating systems.
- The reference period data should be as reliable as possible; baseline projection captures evolution of impairments going forward.
- Countries recently subject to third-party diagnostics would be exempted from parts of the exercise to avoid repetition.
- Delaying stress testing for exhaustive input review has benefits but significant costs: long delays, regulatory changes (e.g., LCR coming into force), and potential market destabilization from investor expectations of revealed losses.
- Communication strategy: define limited, achievable objectives (e.g., review a significant sample of exposures in one problem sector per country) achievable within six to nine months and launch stress testing when met; methodological work can proceed in parallel.
- EBA could promote granular asset quality disclosures in publication stage, but rules for highly market-sensitive data should be pre-agreed, especially if ECB/SSM involved.
- Credibility enhanced by outside evaluators or peer reviewers.
- Authorities should plan in advance for possibility that the exercise reveals sizable capitalization holes; options include immediate remedial supervisory action and excluding affected banks from the regular stress test.
- Consider alternative nomenclature (e.g., “asset quality data exercise” or “input data review”) to distinguish effort from comprehensive AQRs in program countries.

### Refinement of Satellite Models
- Certain series have been difficult to model and need further research because divergent bank projections in 2011 weakened confidence in results. Important difficult-to-forecast series include:
  - Non-interest, non-trading income (increasingly important and potentially disproportionately sensitive in a severe downturn); EBA guidance on fee income projections may be warranted for the adverse scenario.
  - Trading income (depends on banks’ own-account trading of on- and off-balance sheet items); revaluation at scenario prices may be preferable to satellite models that inadequately capture trading income.
  - Funding costs (depend on exogenous macro conditions like sovereign credit ratings and on banks’ own situation). See Box 2 on funding costs and links to capital buffers.
  - Risk weighted assets (affected by shifts in risk weights and write-offs even with static balance sheets).
- Box 2 summary: 2011 EBA solvency stress test incorporated a cost of funding shock linked to sovereign stress, assumed static balance sheets and stable funding needs; funding costs did not depend on changes in a bank’s projected situation.
- Missing in 2011: feedback link between banks’ capital buffers and funding costs (banks with lower solvency saw funding costs rise or funding channels close); some FSAPs incorporated this link crudely.
- Establishing funding-cost–capital links would benefit from panel data to capture dynamic, non-linear relationships; sensitivity analysis could use higher hurdle rates compatible with sustainable funding costs.
- 2011 exercise considered only sovereign assets as collateral for central bank and wholesale funding, not corporate or bank bonds; sovereign collateral value drop did not cover a wide range of collateral assets and did not include ECB haircuts.
- For 2013, refine cost of deposit channel and funding-cost methodology, ideally incorporating banks’ internal pricing mechanisms and hedging practices.

*Source: _cr1368 - 9. The lessons from past stress testing exercises will have to be incorporated into*

### 27. The forthcoming stress testing exercise is meant to be mainly for supervisory

### 27. The forthcoming stress testing exercise is meant to be mainly for supervisory

### Purpose and intended design
- The forthcoming stress testing exercise is meant to be mainly for supervisory purposes, as opposed to the past emphasis on crisis management and the assessment of bank capitalization.
- Translating this intention into the design and practice of the stress test, and transcending the market perception of past tests, will require careful preparation.
- Market participants and analysts are likely to compare results across banks and try to quantify capitalization needs; if the capital needs are not “enough,” analysts may question the rigor of the tests.

### Supervisory outputs and recommended granularity
- Tests should yield recommendations for supervisors as bank managers, and generate relevant indicators.
- Some recommendations may remain confidential and could include areas on which supervisors should focus (e.g., lending practices in especially vulnerable sectors or sustainability of funding).
- Useful outputs include relatively detailed projections for:
  - loan quality by sector and by country,
  - capitalization by country,
  - profitability measures.
- Supervisory colleges could discuss implementation of these recommendations.

### Use of banks’ capital plans and reference data
- Authorities intend to use the exercise to evaluate banks’ plans to comply with evolving capitalization requirements under CRD IV.
- Approach:
  - Each bank will provide its dynamic capital plan, including planned adjustments among assets and liabilities (e.g., a shift out of assets with high capital weights or out of short-term market funding).
  - Each bank will provide data on its balance sheet positions at the reference period, which will probably be end-2012, and projections of its profit and loss under the provided baseline and stress scenarios and satellite model guidance, but with a static balance sheet.11

### Static balance sheet approach: rationale and procedure
- Rationale for a static balance sheet over three years:
  - Tractability and facilitation of comparability across banks.
  - Allowance for simpler methodology and consistency checks; peer reviews are more informative with static assumptions.
- Procedure:
  - A three-year projection period is envisaged.
  - Authorities, after checking plausibility and consistency, will substitute projected losses from the baseline and adverse scenarios into the bank’s capital plan.
  - Authorities will assess whether the bank’s capitalization level falls below, or close to, the CRD IV minimum requirements, which are progressively tighter over the projection period due to the gradual phase-in period of CRD IV.
  - If a bank’s plan looks precarious or based on implausible assumptions, the relevant supervisor would demand a revision.

### Risks and drawbacks of the static balance sheet for supervisory aims
- Key drawbacks:
  - Static balance sheets facilitate comparability, which may lead market analysts to treat results as a “beauty contest” and identify under-capitalized banks.
  - Inconsistency with treatment of banks under restructuring plans agreed in the context of EU state aid rules (which will be assumed to implement those plans).
  - Inconsistency between macro projections (where monetary and financial aggregates change over three years) and static balance sheet assumptions for monetary financial institutions.
  - Potential inconsistency with other regulatory changes (e.g., ESRB recommendations on foreign currency lending).
  - Static projections may be irrelevant for evaluating banks’ plans that involve significant balance sheet adjustment: a bank’s robust dynamic plan may appear inadequate when a static projection is inserted into it.
- Contextual drivers of balance sheet adjustment:
  - Upcoming regulatory changes (CRD IV, CRR) and the LTRO phase-out prompt aggressive balance sheet adjustments by many banks (de-risking activities, changing funding profile).
  - Market analysts may focus on fully phased-in CRD IV thresholds rather than gradual phase-in, facilitating balance sheet adjustments.

### Funding, liquidity and LCR considerations
- Banks’ capital plans are likely to include funding elements aimed at dealing with LTRO exit and achieving compliance with the prospective Basel III liquidity coverage ratio (LCR); supervisory assessment should take these elements into account.
- Banks with an estimated LCR shortfall have a number of ways in their funding plans to become compliant.12
- Examples of actions to achieve funding/LCR objectives: lengthen maturity of unsecured wholesale funding beyond 30 days, promote deposits, reduce costly uncommitted credit lines, increase proportion of liquid assets, deleverage low interest yielding activities funded by short-term liquidity.
- To ensure comparability across banks and jurisdictions, the stress testing CRD IV definitions and hurdle rates during the phase-in period should allow for no national discretion.

### Incorporating dynamic elements and guidance
- The possibility of incorporating more “dynamic” elements into balance sheet projections should be reviewed and is encouraged, while ensuring comparability of the CRD IV definition.
- Heterogeneity across European banks is expected (funding profile, risk appetite, geographical activities).
- Need to achieve LCR compliance shortly after the projection period could force banks to cut short-term wholesale funding and increase funding maturity, with asset-side consequences (deleverage, sale of non-core business).13
- Guidance could be provided on evolution of major balance sheet components consistent with the macro scenario (e.g., aggregate growth in deposits and credit by country, use of loan-to-deposit limits).
- Banks should be discouraged from relying on “deus ex machina” (e.g., sale of an unprofitable business at a handsome price).
- As in the 2011 recapitalization exercise, banks should not be allowed to optimize their RWAs.
- Adherence to such guidance would reduce need for preliminary evaluation of plans before the stress test is performed.14

### Robustness checks and sensitivity analysis
- More effort in assessing robustness of results, including to the static balance sheet assumption, would improve usefulness and credibility.
- Suggested sensitivity tests:
  - Re-running top-down tests with slight variations in the macro scenario or satellite models to assess variability and possible non-linear responses.
  - Top-down analysis to quantify effects of changing balance sheet size and competition to reflect projected aggregate changes (e.g., money supply and credit stock evolution), banks’ own plans, and element consistency.
  - Tests for sensitivity to variations in input data.
- Sensitivity to macroeconomic assumptions needs to be assessed; macro assumptions in baseline and adverse scenarios are crucial drivers of loan losses.15
- It might be useful to use the ECB/ESRB top-down stress test for country-specific sensitivity analysis of the adverse macroeconomic scenario to understand diverse jurisdictional impacts.

### Future priorities: allocation of stress testing resources and topics
- Consideration of where best to allocate limited stress testing resources as banking sector situation and supervisory institutions evolve.
- Existing stress testing and simulations are conducted by EBA, NSAs, and financial institutions (for risk management, ICAAP, recovery planning/living wills); some streamlining is desirable.
- EBA could enhance guidance to banks on recovery plan/living will stress testing.
- Over the medium term, EBA could shift efforts toward relatively neglected topics such as structural issues and funding vulnerabilities.
- Avoid competing EBA, ECB/SSM and ESRB stress tests.
  - Under the SSM architecture:
    - EBA should coordinate EU-wide stress tests with ECB and NSAs and ensure quality control.
    - ECB should run supervisory stress tests for banks in the SSM.
    - ESRB should focus on macro-prudential issues, identification and calibration of systemic risk factors, and the use of stress test results in policy advice.
- EBA comparative advantages:
  - (i) providing benchmarks and satellite models, especially for host country operations;16
  - (ii) ensuring NSAs benefit from latest techniques and apply them with full rigor;17
  - (iii) exercising its mandate to ensure best use of stress testing by NSAs (e.g., setting supervisory priorities and evaluating banks’ recovery plans).
- EBA may wish to focus in 2014–15 on improving liquidity stress testing and its integration with solvency tests rather than another comprehensive solvency test.

### Structural and longer-horizon stress testing
- Stress tests should incorporate more long-term factors and structural shifts:
  - Prolonged period of low interest rates, possibly low growth, increased regulatory burden (Basel III, CRD IV), demographic change.
  - Structural shifts affecting balance sheets and income (deleveraging, changes in bank funding profiles).
  - Emphasize metrics such as profitability and changes in RWA.
- Stress tests and simulations are one instrument among others to examine structural challenges and should complement other quantitative and qualitative approaches.
- ESRB would lead efforts on longer-run structural analyses and macro-financial stress testing best practices.

### Market-data based approaches and calibration of prudential requirements
- Stress tests that make full use of market data (e.g., contingent claims analysis, CCA) should be further developed to complement balance-sheet based tests.18
- Calibration of prudential requirements merits attention:
  - Many prudential requirements (such as the 8 percent capital adequacy requirement under Basel II) appear to be historical accidents rather than deliberate evaluations of costs versus benefits.
  - A thorough analysis could evaluate changes in the proportion of bank failures under a given shock as capital requirements vary; such work might suit a joint ESRB–EBA effort.
- Market-data/CCA methods are suited to capturing cross-sectoral and funding issues, treating banks, nonbank financial institutions, and nonfinancial corporations consistently, and linking sovereign and bank balance sheets; these models are intrinsically non-linear and differentiate behavior/pricing in normal times versus stress.

### Shadow banking and other areas for attention
- Stress tests could be used to investigate stability effects from growth in the “shadow banking” sector:
  - The sector is diverse; some parts may be of much greater systemic importance due to linkages to banks or effects on aggregate credit supply.
  - Simple stress tests might inform whether tightening the regulatory/supervisory framework for parts of the sector is important.

### Liquidity stress testing: integration with solvency and operational recommendations
- The crisis highlighted need to better integrate solvency and liquidity stress testing; sharp rises in euro and US dollar funding costs or quantitative rationing often triggered bank failures.
- EBA’s 2011 stress test introduced a cost of funding shock linked to sovereign debt spread; 2011 included a less formal liquidity risk assessment that indirectly captured fire sales through collateral haircuts.19
- In the medium term, EBA could intensify work on liquidity stress testing, especially as detailed common reporting templates on maturity mismatches, cost of funding, and asset encumbrance are phased in under CRD IV.
- A liquidity risk assessment would:
  - Test resilience to funding shocks (deposits, wholesale, off-balance sheet).
  - Consider banks’ behavior to limited liquidity support (e.g., tightening of central bank collateral requirements).
  - Include risks from asset encumbrance.
- Outputs could feed into ESRB systemic risk assessments.
- EBA should provide guidance on liquidity stress testing, ensure consistency of approaches by NSAs, boost staff resources if needed, adjust medium term work plans, and ensure disclosure and transparency of reporting templates and liquidity stress testing approach while safeguarding sensitive results.
- Elsewhere:
  - ECB Financial Stability Report has incorporated an explicit funding volume shock and deleveraging path into the ECB macro stress testing framework.
  - IMF (2012a and d) has been incorporating a dynamic deleveraging path in its analysis.

### Asset encumbrance and liquidity risk (summary)
- Excessive asset encumbrance lowers bank resilience to funding shocks by constraining access to funding backed by suitable collateral and may subordinate unsecured creditors such as depositors.
- Tightening of central bank collateral requirements can reduce unencumbered eligible collateral dangerously low.
- ESRB survey of 53 European banks finds large dispersion and significant constraints for a subset of banks; increased ECB liquidity provision contributed to very high encumbrance levels among some banks, especially in the periphery.
- ESRB proposed actions: improve related risk management in banks, enhance supervisory monitoring on asset encumbrance, and market transparency; ESRB recommends EBA develop guidelines.
- For the longer run, ESRB will consider a formal encumbrance framework to alleviate pro-cyclicality of excessive asset encumbrance.

*Source: IMF staff analysis in the provided content*

### 44. A cash flow-based liquidity stress test, such as used by EBA in 2011, offers

### _cr1368 - 44. A cash flow-based liquidity stress test, such as used by EBA in 2011, offers

### Advantages of a cash flow–based liquidity stress test
- Allows running detailed liquidity analysis to capture a bank’s funding resilience and liquidity risk bearing capacity.
- Supports detailed maturity buckets and adaptation to different currencies.
- Separates liquidity risk exposure (net funding gap, cumulated net funding gap) and liquidity risk bearing capacity in the template.
- Incorporates securities flows and ensures consistency between cash-flows and securities flows.
- Can explicitly model unsecured and secured wholesale funding and off-balance sheet activities such as FX swaps or credit and liquidity lines.
- Aligns with internal EBA liquidity risk assessment practice (2011) and forthcoming EBA cash flow based maturity mismatch template.

### Weaknesses and implementation considerations
- High data intensity and initial set-up costs.
- Regulatory liquidity ratios are often based on stock accounting data with less data granularity than cash flow templates.
- Phase-in of EBA cash flow based maturity mismatch templates requires standardized templates to be regularly filled out and reported.
- Suggested rollout procedure: EBA staff, with NSA colleagues, should have access to banks for a consulting/feedback process and direct interaction with banks’ liquidity risk managers to facilitate implementation.

### Literature and model approaches (select findings)
- Schmieder et al. (2012): Excel-based framework linking liquidity tests to banks’ solvency conditions and simulating increases in funding costs from solvency changes.
- Hesse, Salman and Schmieder (2013, forthcoming): Focus on scenario design and integrated macro-financial scenarios that consider solvency and liquidity risks jointly.
- IMF GFSR (2012a, 2012b): Dynamic deleveraging analysis including assumed funding shock on deposits and wholesale funding for European banks in the sample.
- Jobst (2012) SRL model: Combines option pricing, market information, and balance sheet data to generate probabilistic measures of joint liquidity events linked to maturity mismatches.
- Van den End (2008): Monte Carlo framework endogenizing market and funding liquidity risk with feedback effects; used by several central banks and supervisors.
- Wong & Hui (2009): Framework linking default risk and deposit outflows; simulates mark-to-market losses leading to deposit outflows, asset fire sales, and increased contingent liquidity risk.
- Barnhill & Schumacher (2011): Empirical model integrating sources of solvency shocks and computing longer term impacts of funding shocks.
- RAMSI (Aikman et al., 2009): Simulates banks’ liquidity positions conditional on capitalization under stress and decreased market confidence.
- Basel Research Task Force: Ongoing work on solvency–liquidity linkage in stress testing.

### Integrating liquidity and solvency risks; bank reactions
- Banks’ responses to credit and funding shocks include: using high-quality capital and profits, generating liquid assets via eligible securities as collateral, fire sales (at considerable cost), deleveraging (targeted at high risk-weight assets), debt-to-equity conversions, issuance of convertibles, optimizing RWAs.
- Importance of modeling banks’ reactions for informative stress tests, especially over longer horizons, since reactions have both capital and liquidity aspects that are tightly linked.
- Two-round approach: bottom-up (BU) first round to capture bank-level reactions; top-down (TD) second round to impose quantified haircuts or roll-over reductions based on BU responses, historical data, cross-country experience, or expert judgment.

### Practices and examples by authorities and FSAPs
- ECB: Does not run stand-alone liquidity stress tests of European banks; incorporates funding and liquidity stress via contribution to EBA solvency stress tests (where a funding cost shock is assumed) and embeds an explicit funding volume shock in its macro stress testing framework (June 2012 Financial Stability report).
  - In the contagion and deleveraging scenario originating from non EU/IMF program countries, it is assumed that European banks can only refinance 50 percent of their wholesale funding which matures in 2012–2013.
  - Deposit withdrawal rates range between 0 percent for countries with an AAA rating to 20 percent for countries below investment grade.
  - Scenario embeds deleveraging where banks fire sell more liquid assets to cover the wholesale funding gap, and around one third of this gap is covered by loan reductions; losses in deposits lead to loan deleveraging.
  - Scenario includes differential increases in interest rates and stock market declines.
  - Outcome: scenario leads to a 0.2 euro area GDP decline in 2012 and of 0.7 in 2013, both relative to baseline of -0.3 and 1 percent, respectively.
  - Findings: from a baseline average core Tier 1 ratio of 9.3 percent at end–2013 (end–2011 is 8.7 percent) the scenario causes a capital drop to 7 percent; adding an additional domestic demand shock, core Tier 1 capital further drops to 6.4 percent; adding the EBA mandated temporary sovereign buffer from the recapitalization exercise increases core Tier 1 from 7 to 7.4 percent.
  - ECB notes the macro stress test does not consider the LTRO effect on reducing banks’ funding costs which the ECB estimates at between 0.2-0.6 percent of core Tier 1 capital, and the analysis does not incorporate any second round effects from limited bank funding availability.
  - Design limitation: approach does not take into consideration ECB collateral and haircut policies or banks’ heterogeneous asset encumbrance levels; high asset encumbrance diminishes counterbalancing capacity.
- IMF FSAPs: Often based on stock rather than cash flow approaches, though some FSAPs used cash flow–like analyses:
  - Spain and U.K. FSAPs: implied cash flow tests (sensitivity to outflow of funding over 5 and 30 days) and simulations of Basel III liquidity measures.
  - Germany FSAP: implied cash flow analysis of funding shocks to consecutive periods.
  - France FSAP: cash flow-based liquidity stress test using maturity buckets.
  - U.S. FSAP: liquidity stress test based on basic analysis of maturity mismatches of major banks assuming inability to refinance maturing loans.
- Oesterreichische Nationalbank (OeNB): advanced cash flow–based tests.
  - During 2008 crisis, Austrian Market Authority (FMA) and OeNB required banks to submit a weekly cash flow based report based on a new liquidity reporting template.
  - Template is forward-looking, includes contractual cash out- and inflows and expected counterbalancing capacity, distinguishes currencies; standardized templates enable simulation of common shocks.
  - Prerequisite: access to wide range of data on contractual cash flows by maturity buckets and behavioral data from banks’ funding plans.

### Basel III and liquidity stress testing
- The Basel III liquidity coverage ratio (LCR) amounts to a quasi-liquidity stress test; its phase in period from 2015 could compel many European banks to close their current funding gaps.
- LCR can be viewed as a 30-day medium shock stress test.
- The Net Stable Funding Ratio (NSFR) is under review by the Basel Committee.
- Banks with an estimated LCR shortfall have several funding-plan options to become compliant (examples given): lengthen unsecured wholesale funding beyond 30 days, promote deposits, reduce costly uncommitted credit lines, increase proportion of liquid assets, deleverage activities funded by short-term liquidity; heterogeneity across European banks likely.

*Source: IMF—appendix section “APPROACHES TO LIQUIDITY STRESS TESTING” (excerpts).*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2013/_cr1368.pdf_