Federal Reserve Board releases results of annual bank stress test

The Federal Reserve Board on June 23 released the results of its annual bank stress test, which showed that banks continue to have strong capital levels, allowing them to continue lending to households and businesses during a severe recession.

All banks tested remained above their minimum capital requirements, despite total projected losses of $612 billion. Under stress, the aggregate common equity capital ratio — which provides a cushion against losses — is projected to decline by 2.7 percentage points to a minimum of 9.7%, which is still more than double the minimum requirement.

The Board’s stress tests help ensure that large banks can support the economy during economic downturns. The tests evaluate the resilience of large banks by estimating their capital levels, losses, revenue and expenses under hypothetical scenarios over nine future quarters.

This year’s hypothetical scenario is tougher than the 2021 test, by design, and includes a severe global recession with substantial stress in commercial real estate and corporate debt markets. The unemployment rate rises by 5-3/4 percentage points to a peak of 10% and GDP declines commensurately. Asset prices decline sharply, with a nearly 40% decline in commercial real estate prices and a 55% decline in stock prices.

Total losses were largely driven by more than $450 billion in loan losses and $100 billion in trading and counterparty losses. This year, larger banks saw an increase of over $50 billion in losses compared to the 2021 test. Additionally, the aggregate 2.7% decline in capital is slightly larger than the 2.4% decline from last year’s test but is comparable to recent years. 

The individual bank results from the stress test will factor directly into a bank’s capital requirements, mandating each bank to hold enough capital to survive a severe recession. If a bank does not stay above its capital requirements, it is subject to automatic restrictions on capital distributions and discretionary bonus payments.