MEFMI / IMF East AFRITAC Hold Joint Workshop on Prudential Micro Stress Testing

MEFMI conducted a regional workshop in collaboration with the International Monetary Fund’s (IMF) Africa Regional Technical Assistance Center for Eastern Africa—East AFRITAC (AFE) on Micro Prudential Stress Testing from 12 to 16 January 2015. The regional workshop, which was held in Addis Ababa, Ethiopia attracted 25 participants from Central Banks of nine (9) countries- Burundi, Ethiopia, Kenya, Mozambique, Namibia, Swaziland, Tanzania, Uganda, and Zambia.

The workshop was motivated by the growing attention on stress testing since the Global Financial Crisis and the resulting regional initiatives to implement comprehensive stress testing frameworks that are customized to the local and regional circumstances. The content was built around the Cihak framework, which is being adopted and implemented, sometimes in a modified form, by the Central Banks in the region. In particular, stress testing and sensitivity analysis for credit risk, interest rate risk, foreign exchange risk, liquidity risk and testing for possible spillover effects through interbank contagion were discussed.  Also discussed was how these risks can be combined in stress testing scenarios. The concepts and approaches discussed were tailored to the regional context and took into account data availability constraints.

Since the global financial crisis, a lot of changes have been made in financial sector regulation. Stress testing is a forward looking process that supplements the risk management process.  It explores potential vulnerabilities to exceptional but plausible events by testing beyond normal operational capacity, often to breaking point, in order to observe the results. Such results should neither be ignored nor be actionable to the extent that there is an incentive to test only for mild stresses. Stress testing can not be used in isolation, but rather as a tool that supplements other risk management and capital planning approaches and measures. It feeds into ICAAP thereby facilitating the development of the contingency planning process.

The Basel Committee on Banking Supervision (BCBS) in its Core Principles for Effective Banking Supervision requires banks to undertake stress testing as part of the criteria in Principle 15 (Risk Management Process), Principle 22 (Market Risk), Principle 23 (Interest Rate Risk in the Banking Book) and Principle 24 (Liquidity Risk). The BCBS also provides guidance to supervisors. Supervisors should regularly assess a bank’s stress testing programme, require corrective action if material deficiencies are identified and assessed and, if necessary, challenge the severity of the stresses tested. In addition to the scenarios developed by individual banks, from time to time supervisors should also consider requiring the banks to test for common scenarios developed by the supervisor.

Regulators are also expected to regularly conduct stress tests on institutions on an individual basis and on a sector basis to determine the vulnerability of the financial sector. They are also expected to request banking institutions to conduct their own stress tests as part of the corporate governance culture.  At regional level, a number of countries are still in the process of implementing stress testing frameworks in their supervisory processes in compliance to the BCBS.

The workshop was officially opened by the Director of Bank Supervision of the National Bank of Ethiopia, Mr. Solomon Desta.  In his opening remarks, Mr Desta emphasized that stress testing is an important tool for assessing the linkages between institutions and sectors, facilitating the identification of  potential vulnerabilities and the built up of risks across sectors.  He highlighted the development of the economic landscape in Ethiopia which has been characterized by the rapid increase in savings and lending activities. Given the background, he expressed his delight at the choice of topics selected for the workshop. Mr Sukwinder Singh, the Centre Coordinator of IMF East AFRITAC also attended the first 3 days of the workshop.

The workshop content was well received by the participants, who together with the organisers agreed that there is scope for further capacity building in stress testing.  MEFMI will continue to collaborate with the IMF on similar themed workshops for the development of the region.