Towards Macroprudential Stress Testing: Incorporating Macro-Feedback Effects

IMF Working Papers, June 30, 2017

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Towards Macroprudential Stress Testing: Incorporating Macro-Feedback Effects

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Bibliographic details

• Authors: Ivo Krznar, Troy D Matheson
• Published: June 30, 2017
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781484303634.001

Overview and purpose

• Authors: Ivo Krznar, Troy D Matheson
• Date: June 30, 2017
• Purpose: Develop a framework to analyze both the direct effects of macroeconomic shocks on individual-bank solvency and the feedback effects that amplify and propagate shocks via bank deleveraging and credit crunches.
• Approach: Embed a standard stress-testing framework based on individual banks’ data in a semi-structural macroeconomic model to ensure consistency between macroeconomic and financial variables and banks’ balance sheets.

Key findings and contributions

• Macro-feedback effects are identified as a key missing element for more effective macro-prudential stress testing.
• The proposed framework:
  • Facilitates analysis of direct macroeconomic shock impacts on bank solvency.
  • Captures feedback effects arising from bank deleveraging and credit crunches that can amplify and propagate shocks.
  • Ensures consistency in key relationships between macroeconomic variables, financial variables, and banks’ balance sheets.
• The framework strengthens stress testing and macro-financial analysis by integrating micro-level bank data with macroeconomic dynamics.
• The paper provides preliminary simulations of feedback effects specifically arising from the link between liquidity and solvency risk.

Applications and extensions

• The framework has numerous applications to enhance stress testing and macrofinancial surveillance.
• It provides an avenue for extensions to incorporate additional second-round effects important for systemic risk analysis, including interactions between:
  • Solvency risk
  • Liquidity risk
  • Contagion risk

Subject coverage and keywords

• Subjects: Banking; Capital adequacy requirements; Countercyclical capital buffers; Credit; Financial regulation and supervision; Financial sector policy and analysis; Income; Money; National accounts; Personal income; Stress testing
• Keywords: A. macro module; balance sheet dynamics; bank; banking sector; Capital adequacy requirements; capital requirement shock; Countercyclical capital buffers; Credit; credit crunch; credit gap; credit impulse response; credit shock; credit supply; Global; impulse response; Income; income statement; income statement item; loss absorbency level; macro feedback effect; macro feedback effects; panel credit equation; Personal income; portfolio adjustment; projections of capital ratio; solvency position; solvency problem; solvency risk; stress testing; WP

Content in this bundle

• Towards Macroprudential Stress Testing: Incorporating Macro Feedback Effects, WP/17/149, June 2017
  • Towards Macroprudential Stress Testing: Incorporating Macro Feedback Effects, WP/17/149, June 2017 (Markdown version)
  • Towards Macroprudential Stress Testing: Incorporating Macro Feedback Effects, WP/17/149, June 2017 (PDF)