On the Coordination Role of Stress Test Disclosure in Bank Risk Taking

This paper identi…es a cost of stress test disclosure that stems from the facilitating role that stress test information can potentially play in coordinating banks into taking excessive risk. We examine a model of risk taking by banks, the concurrent failure of which may induce a bailout decision by a regulator if the number of failing banks is large enough. We …nd a “if ain’t broken don’t …x it”result. In particular, we …nd that the disclosure of stress tests decreases the banks’ average risk taking if the regulator is prone to bail banks out to begin with. However, if the regulator has weak incentives to bail out banks, disclosing stress tests increases banks’average risk taking.