The limitations of stress-testing as an exercise across the globe are pretty well appreciated. Both the choice of stress scenarios in terms of macroeconomic and other external factors, and the mapping from those factors to default probabilities and to loss-given-default are always subject to uncertainty. Variances are high. This is all the more so when the economy moves outside of the previously experienced range.
Given the steepness of the decline in economic activity (between the peak quarter in late 2007 and the trough in late 2009, real GDP fell by 11.5%; GNP by 13.9%) and employment and the steady decline in house prices both actual and forecast, there was very little in historical experience – either in Ireland or in other advanced economies with large financial sectors – to guide those attempting to estimate the range of plausible outcomes for a bank lending portfolio which had clearly been inadequately underwritten.