WASHINGTON–The Federal Reserve has released its hypothetical scenarios for annual stress tests in 2024 for very large banks, including new, “exploratory” elements designed to test different risks of the banking system.
According to the Fed, the tests will be administered to 32 banks to test for their resilience to a severe global recession, with additional focus on hypothetical stresses in both commercial and residential real estate markets, and the corporate debt markets.
Specifically, the Fed said its new tests include scenarios in which the U.S. unemployment rate rises from nearly 6.5% to a high of 10%.
The Scenarios
“The increase in the unemployment rate is accompanied by severe market volatility, a widening of corporate bond spreads, and a collapse in asset prices, including a 36% decline in house prices and a 40% decline in commercial real estate prices,” the Fed said in a statement.
Moreover, the Federal Reserve said large banks with substantial trading or custodial operations are now being required to incorporate a “counterparty default scenario” component to estimate and report potential losses and capital effects associated with the unexpected default of the firm’s largest counterparty.
At least 11 banks fit that category, the Fed said.
Four Additional Elements
The “exploratory analysis” looks at four hypothetical elements in the banking system, the Fed explained. The first two of those include funding stresses that cause rapid repricing of a large proportion of deposits at large banks.
“Each element has a different set of interest rate and economic conditions, including a moderate recession with increasing inflation and rising interest rates, and a severe global recession with high and persistent inflation and rising interest rates,” the Federal Reserve explained.
The other two elements include two sets of market shocks that will be applied only to the largest and most complex banks, according to the Fed.
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