Abstract
We examine whether stress tests distort banks' risk-taking decisions. We study a model in which a regulator may choose to rescue banks in the event of concurrent bank failures. Our analysis reveals a novel coordination role of stress tests. Disclosure of stress-test results informs banks of the failure likelihood of other banks, which can reduce welfare by facilitating banks' coordination in risk-taking. However, conducting stress tests also enables the regulator to more effectively intervene banks, coordinating them preemptively into taking lower risks. We find that, if the regulator has a strong incentive to bail out, stress tests improve welfare, whereas if the regulator's incentive to bail out is weak, stress tests impair welfare.
Original language | English (US) |
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Pages (from-to) | 1161-1200 |
Number of pages | 40 |
Journal | Journal of Accounting Research |
Volume | 57 |
Issue number | 5 |
DOIs | |
State | Published - Dec 1 2019 |
Keywords
- G01
- G21
- G28
- M40
- M41
- bailout
- bank regulation
- bank risk-taking
- coordination
- stress test
- stress-test disclosure