A limitation of traditional stress testing models is that they are Static—they evaluate each bank’s balance sheet independently, ignoring how individual banks’ responses to stress can interact and worsen the crisis. Modern macroprudential modeling integrates Second-Round Effects.

Primary Loss Shock -> Banks Cut Lending to Save Capital -> Credit Squeeze Slows Economy -> Secondary Loan Defaults Rise

Dynamic stress models incorporate feedback loops: when a simulated shock hits the banking sector, the system models how banks will respond (such as tightening credit lines or executing asset fire-sales to maintain capital ratios). The model calculates how these collective actions will alter macroeconomic conditions, projecting a secondary wave of loan defaults that provides a more realistic assessment of systemic resilience.