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Outcomes of the 2021 Bank Stress Test

Chris McDonald, Ken Nicholls, Cuong Nguyen, Roanna McLeod, Bruce Lu

The annual Bank Stress Test programme at the Reserve Bank of New Zealand - Te Pūtea Matua enables us to investigate and understand the implications of current and emerging risks to financial stability; assess the resilience of participating banks to severe but plausible stress scenarios; and support improvements in the use of stress tests by banks to identify and manage the risks facing their business. Stress tests provide a forward-looking lens on financial stability risks. Over the past two years we have used scenarios to understand risks posed to the financial system by the COVID-19 pandemic.

We conducted two industry stress tests for banks we supervise in 2021. We conducted our regular ‘Solvency Stress Test’ which tests the resilience of banks’ capital to a severe but plausible scenario. This year we also sought to test banks’ liquidity and funding resilience through a ‘Liquidity Stress Test’ in the lead up to our upcoming Liquidity Policy Review, due to commence in 2022. The Solvency Stress Test involved the five largest banks and the Liquidity Stress Test involved the ten largest locally incorporated banks.

These two risks – liquidity and capital – can be correlated. For example, deterioration in a bank’s capital position may affect its credit rating which can lead to a liquidity stress. It is important for banks to maintain both strong capital and liquidity positions. In that sense, we see these two tests as complementary whilst allowing us to focus on each risk individually. It should be noted that the scenarios are hypothetical and do not represent our view of the most likely future path for financial stability risks.