Authors: Aristeidis Samitas, Stathis Polyzos, Spyros Papathanasiou

Title: Predicting the End: A Simulation Study into the Causes of Bank Failure

Abstract

The recent series of banking crises in the United States and in the Eurozone has resulted in numerous bank failures. In this paper, we extend VBanking, an object oriented model for financial simulations, to test for factors that determine bank viability in times of distress. We are mainly focused on the endogenous risk of financial institutions, which is influenced by a series of factors, as described in the relevant literature. We test for the effect of these factors on the institutions’ ability to weather the storm during times when the banking system experiences distress. The VBanking simulation process is split into a setup period, when the simulation builds the structural characteristics of each bank, and a testing period, where these characteristics are tested against the final result, which is the bank’s viability. We test existing risk estimation models and find that VBanking is successful in predicting whether a particular bank can endure a stress testing situation. Our empirical results confirm the relevant literature and put further emphasis on the policy implications on banking supervision and regulation, particularly in context of the upcoming Eurozone banking union.