The Federal Reserve Board released its 2025 stress test scenarios on Feb. 5, outlining hypothetical economic conditions designed to evaluate the resilience of major U.S. banks. These annual tests, mandated by the Dodd-Frank Act, assess how large financial institutions would perform under various economic shocks, ensuring they maintain sufficient capital to continue lending in adverse conditions.
The 2025 scenarios include a baseline scenario, reflecting expected economic trends, and a severely adverse scenario, which simulates a deep recession, significant asset price declines, and increased market volatility. However, economist Peter Schiff criticized the assumptions behind the test. “Yesterday the Fed released its bank stress tests. In the ‘Severely Adverse Scenario,’ the Fed assumes a recession with a sharp decline in interest rates and inflation. They did not test a scenario where there is a recession, but interest rates and inflation rise,” he detailed on social media platform X on Thursday. The economist added:
That’s why the Fed’s plan for stagflation is to hope it doesn’t happen. They know no major bank could survive it.
Under the severely adverse scenario, the U.S. unemployment rate is projected to rise from 4.1% in late 2024 to a peak of 10% by the third quarter of 2026. This scenario also anticipates a sharp economic downturn, with a 7.8% decline in real GDP, a 33% drop in house prices, and a 30% fall in commercial real estate values.
Additionally, the global market shock component subjects banks with significant trading activity to extreme financial stress, while the counterparty default component examines the impact of a major counterparty failure. These elements are designed to gauge banks’ ability to absorb financial shocks and continue operating effectively. Schiff’s criticism highlights a concern that the Fed may not be adequately preparing for a stagflation scenario, in which both inflation and interest rates rise while economic growth declines.
The Federal Reserve uses the results of these stress tests to set capital requirements for large banks, ensuring their stability in times of economic distress. The scenarios also provide insights into potential financial vulnerabilities, including corporate debt risks, real estate market downturns, and global economic pressures. The 2025 stress test findings, expected later this year, will determine whether banks need to adjust their capital buffers or take corrective measures to strengthen their financial positions.
Source:news.bitcoin.com
