Fed stress tests will incorporate 'current events,' Quarles says
WASHINGTON — Federal Reserve Chairman for Supervision Randal Quarles said the central bank will proceed with this year’s stress tests, and that the Fed should use them to monitor how banks are handling economic stress due to the coronavirus.
Financial institutions subject to this year’s Comprehensive Capital Analysis and Review were required to submit their capital management plans to the Fed by April 6, but many in the industry have argued that the stress tests should be suspended this year given the current economic conditions.
“In the regular order, stress testing of banks proceeds by our announcing the scenario early in the year of hypothetical financial stress, and then we determine how a bank’s portfolio would respond to that hypothetical stress and whether their capital levels are sufficient to allow them to continue to support the real economy through that stress,” Quarles said Friday on a webcast Q&A with the University of Utah.
Although other central banks — including the Bank of England — have announced that they will suspend their stress tests this year, Quarles said he supports the Fed going forward with CCAR this year.
“The right thing for us to do is to continue our stress tests, but as part of them, to analyze how banks’ portfolios are responding to real, current events, not just to the hypothetical event that we announced earlier this year,” he said.
The Fed will then “use that analysis to inform determinations we make about the regulation and supervision of the financial sector,” he added.
The CCAR test uses two scenarios: one dealing with normal economic conditions, the other based on severe stress to the financial system. For the 2020 test, the baseline scenario is based on year-end 2019 conditions, envisioning GDP growth of 1.75% and an unemployment rate of 3.25%. The latter scenario envisions a severe global recession highlighted by an 8.5% drop in GDP and 10% unemployment. Yet many observers have posited that the fallout from the pandemic could be even more severe.
The Fed said in a statement last month that it would use this year’s stress tests to monitor how banks are withstanding the current shocks to the financial system, but did not announce any structural changes to CCAR in light of the present-day economic conditions.