How Regulatory Stress Tests Affect Bank Lending

The Dodd-Frank Act, enacted in 2010 in the wake of the Great Recession, introduced mandatory stress-testing for the largest U.S. banks. Dodd-Frank Act Stress Testing (DFAST) was intended to ensure that banks have sufficient capitalization to absorb the losses they may experience in an economic downturn and, more importantly, continue providing credit to the economy. The stress-testing exercise, which is conducted by the Federal Reserve, uses hypothetical macroeconomic scenarios to predict a bank’s portfolio return under stress and its implied equity values. Thus, the exercise indicates whether a bank, given its current equity position and portfolio allocation, could withstand a … Read more