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Measuring capital adequacy: supervisory stress-tests in a Basel world

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Abstract

The U.S. is now committed to using two relatively sophisticated approaches to measuring capital adequacy: Basel III and stress-tests. This paper shows how stress testing could mitigate weaknesses in the way Basel III measures credit and interest rate risk, the way it measures bank capital and the way it creates countercyclical capital buffers. However, the paper also emphasizes the extent to which stress-tests add value will depend upon the exercise of supervisor discretion in the design of stress scenarios. Whether supervisors will use this discretion more effectively than they have used other tools in the past remains to be seen.

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  • Wall, Larry, 2014. "Measuring capital adequacy: supervisory stress-tests in a Basel world," Journal of Financial Perspectives, EY Global FS Institute, vol. 2(1), pages 85-94.
    • Handle: RePEc:ris:jofipe:0039
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    1. Blum, Jürg M., 2008. "Why 'Basel II' may need a leverage ratio restriction," Journal of Banking & Finance, Elsevier, vol. 32(8), pages 1699-1707, August.
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    3. Viral V. Acharya, 2012. "The Dodd-Frank Act and Basel III : Intentions, Unintended Consequences, and Lessons for Emerging Markets," Finance Working Papers 23352, East Asian Bureau of Economic Research.
    4. Larry D Wall, 2014. "The adoption of stress testing: Why the Basel capital measures were not enough," Journal of Banking Regulation, Palgrave Macmillan, vol. 15(3-4), pages 266-276, September.
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    8. Bookstaber, Rick & Cetina, Jill & Feldberg, Greg & Flood, Mark & Glasserman, Paul, 2013. "Stress tests to promote financial stability: Assessing progress and looking to the future," Journal of Risk Management in Financial Institutions, Henry Stewart Publications, vol. 7(1), pages 16-25, December.
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    11. Rochelle M. Edge & Ralf R. Meisenzahl, 2011. "The Unreliability of Credit-to-GDP Ratio Gaps in Real Time: Implications for Countercyclical Capital Buffers," International Journal of Central Banking, International Journal of Central Banking, vol. 7(4), pages 261-298, December.
    12. Anat R. Admati & Peter M. DeMarzo & Martin F. Hellwig & Paul Pfleiderer, 2010. "Fallacies, Irrelevant Facts, and Myths in the Discussion of Capital Regulation: Why Bank Equity is Not Expensive," Discussion Paper Series of the Max Planck Institute for Research on Collective Goods 2010_42, Max Planck Institute for Research on Collective Goods.
    13. Marcus, Alan J, 1983. "The Bank Capital Decision: A Time Series-Cross Section Analysis," Journal of Finance, American Finance Association, vol. 38(4), pages 1217-1232, September.
    14. Robert Jarrow, 2013. "Capital adequacy rules, catastrophic firm failure, and systemic risk," Review of Derivatives Research, Springer, vol. 16(3), pages 219-231, October.
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    Cited by:

    1. Pavel Kapinos & Oscar A. Mitnik, 2016. "A Top-down Approach to Stress-testing Banks," Journal of Financial Services Research, Springer;Western Finance Association, vol. 49(2), pages 229-264, June.

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    More about this item

    Keywords

    Capital adequacy; Basel capital ratios; stress test;
    All these keywords.

    JEL classification:

    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • G01 - Financial Economics - - General - - - Financial Crises
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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