CONTACT: Barbara Hagenbaugh
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Stress Test Process Needs to Be More Transparent
Greater transparency would help improve public trust, promote economic stability, and ensure banks can support the economy to their fullest potential, Forum chief economist tells lawmakers.
Washington, D.C. – The Federal Reserve should significantly improve its stress testing process to provide more information about how the tests are conducted and opportunity for public comment given the importance of the stress tests in the allocation of credit in the economy, Financial Services Forum chief economist Dr. Sean Campbell said to lawmakers.
Fifteen years after the initial government bank stress tests, the testing process stands as a stark outlier in relation to other parts of the banking regulatory process in terms of transparency, public understanding, and opportunity for input. The Federal Reserve should quickly improve the stress tests to ensure greater accountability, effectiveness and efficiency, Campbell said in testimony prepared for the House Financial Institutions and Monetary Policy Subcommittee.
“Appropriately calibrated and conducted, the stress tests serve as an important tool to safeguard the safety and soundness of the banking system and our economy,” Campbell said.
“Regulatory transparency ensures that the public can understand how their public institutions operate in the light of day and allows the public to assess the impact of regulation on affected entities and the broader economy,” he said. “Banking regulations that are opaque frustrate prudent risk management and create costly regulatory uncertainty that has deleterious effects on the whole economy.”
The hearing is scheduled for 2 p.m. on Wednesday, June 26th.
In one example, Campbell analogizes information provided by the Federal Reserve regarding a part of its stress testing model: “The descriptions effectively describe a lemon chiffon cake as consisting of some flour, some eggs, some sugar and some butter and flavorings – the ingredients in most any cake. Overall, the descriptions are not sufficient to allow for a critical examination of their specification or to assess their impact.”
In his written testimony, Campbell offered several suggestions for improvement:
- The Fed should take steps to foster public engagement on the development of hypothetical scenarios so regulators can gain insight into salient risks from a diverse set of viewpoints
- The agency should utilize the usual notice-and-comment process for stress test modeling
- The stress testing process should be subject to a rigorous, external review with public findings to instill further confidence in the validity and robustness of the stress testing regime.
For more information on stress testing, please review the Forum’s fact sheet and other related content.
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