Fed stress tests show large banks can weather severe recession

Large banks are well positioned to weather a severe recession and continue to lend to households and businesses even during an economic downturn, according to the results of Dodd-Frank Act-mandated stress tests, the Federal Reserve said today.

All 23 banks above $100 billion in assets tested remained above their minimum capital requirements during the hypothetical recession, despite total projected losses of $541 billion, according to the Fed. Under stress, the aggregate common equity risk-based capital ratio—which provides a cushion against losses—is projected to decline by 2.3 percentage points to a minimum of 10.1%. This year’s test modeled a severe global recession with a 40% decline in commercial real estate prices, a substantial increase in office vacancies, a 38% decline in house prices and an unemployment rate peaking at 10%.

For the first time this year, the Fed conducted an exploratory market shock on the trading books of the largest banks, testing them against greater inflationary pressures and rising interest rates. The Fed said the exploratory market shock will not contribute to banks’ capital requirements but was used to further understand the risks with their trading activities and to assess the potential for testing banks against multiple scenarios in the future. The results showed that the largest banks’ trading books were resilient to the rising rate environment tested.

“The Federal Reserve’s latest stress test results confirm what top regulators have repeatedly stated—America’s banks remain strong and the tested institutions have built up significant capital reserves that will allow them to continue lending and supporting our economy even under the most severe economic conditions,” ABA President and CEO Rob Nichols said. “Policymakers should keep today’s results front and center before they consider new Basel capital requirements that would only make it harder for banks of all sizes to meet the needs of their customers, clients and communities.”