CCAR and Stress Testing as Complementary Supervisory Tools

Tim P Clark and Lisa H Ryu

The financial crisis of 2007–09 highlighted a number of deficiencies in risk measurement and management practices, and in the financial resiliency of large systemically important financial institutions (SIFIs). Of particular importance was the lack of attention that had been paid to low-probability, high-impact events that could strain a firm’s capital adequacy, test its ongoing viability and quickly spread to other financial institutions. Indeed, the continuation of capital distributions at many large bank holding companies (BHCs) well after it became apparent that there was substantial deterioration in the operating environment highlights the extent to which the supervisors and management of these companies underestimated the effect that stressed conditions could have on BHCs’ financial soundness. In short, the crisis made clear the need for more robust supervisory and internal capital adequacy assessment processes at BHCs that incorporate a comprehensive, forward-looking assessment of capital adequacy under a variety of stressful scenarios, as well as the need for better firm-wide risk identification and measurement practices to support this analysis.

The annual stress tests