Lúcio Tomé Feteira; Luis Silva Morais; Pedro Duarte Neves: Stress-testing in Banking in the EU: Critical Issues and New Prospects

This chapter examines financial stress-testing, most notably microprudential bank stress-testing in the EU. It begins by differentiating between micro and macroprudential stress tests. Microprudential stress-testing takes place at the level of individual financial institutions (micro perspective) serving as a risk management tool used both by individual banks (to gauge risk exposures for internal purposes) and supervisors (to assess the resilience of banking institutions to adverse market developments). Meanwhile, macroprudential stress tests are a tool designed to assess the system-wide resilience to shocks to support the design and calibration of macroprudential policy with the objective to identify and reduce systemic risk. Therefore, the focus is on the system-wide resilience and not on individual resilience, with the possible application for defining the size of counter-cyclical buffers. The chapter then addresses the topic of EU-wide stress tests from three perspectives, namely (i) its implementation and the methodologies used from 2009 onwards; (ii) the outcomes of such stress-testing exercises; and (iii) a comparative analysis of EU-wide stress tests with its US and UK counterparts, also including the sensitivity scenarios developed to assess the possible effects of the COVID-19 pandemic.