The Clearing House Association (TCH) Research Department has published a note on a comparison between United States and European Union Stress Tests. First, the research note finds that the European Banking Authority’s stress scenario for the 2016 EU-wide stress tests assumes a moderate recession while the Federal Reserve’s stress scenario entails a recession that is considerably worse than the recession experienced during the 2007-2009 financial crisis. Second, the European Banking Authority’s methodology for assessing the resilience of the largest EU banks is more transparent and may result in more accurate estimates of post-stress capital ratios.
In contrast, the Federal Reserve uses its own models to estimate stressed credit losses and net revenues, with very little detail regarding those models and the assumptions embedded therein. Lastly, the European Banking Authority does not define hurdle rates or capital thresholds for its 2016 EU-wide stress tests, but does publish the post-stress capital ratios of all banks and leverage the results to assess remaining vulnerabilities. In contrast, the Federal Reserve sets the stress test hurdle rates to be equal to a minimum common equity tier 1 capital ratio of 4.5 percent and a tier 1 leverage ratio of 4 percent, and effectively makes the ability to pay dividends or otherwise return capital to shareholders contingent on meeting those thresholds.