US Bank Regulators Release Sweeping Plan to Overhaul Capital Requirements

US regulators unveiled plans to impose even tighter capital rules on big banks, setting up a battle with the industry over whether the push for financial stability will make the country’s lenders less competitive.

(Bloomberg) — US regulators unveiled plans to impose even tighter capital rules on big banks, setting up a battle with the industry over whether the push for financial stability will make the country’s lenders less competitive. 

The measures released Thursday by the Federal Reserve, Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency would force lenders to thicken their cushions to absorb unexpected losses. Banks with at least $100 billion in assets would have to boost the amount of capital set aside by an estimated 16%. The eight largest banks face about a 19% increase, with lenders between $100 billion and $250 billion in assets seeing as little as 5% more, according to agency officials. 

The plan would result in midsize firms such as Regions Financial Corp., KeyCorp and Huntington Bancshares Inc. encountering the kind of stringent requirements that had been reserved for the largest lenders. 

The long-awaited US reforms are tied to Basel III, an international overhaul that started more than a decade ago in response to the financial crisis of 2008. The issue became more stark this year with the failures of Silicon Valley Bank and Signature Bank in March, and First Republic Bank in May.

“One clear message was that regulatory requirements, including capital requirements, must be aligned with actual risk so that banks bear the responsibility for their own risk-taking,” Fed Vice Chair for Supervision Michael Barr said in a statement. “The proposal takes an important step toward better aligning capital requirements with risk.”

The key proposals were close to what Barr and other regulators had told the markets to expect. The KBW Bank Index closed 1.2% lower.  

Wall Street’s biggest banks have been preparing for the regulations to wipe out almost all of the excess capital they stashed away over the past decade, likely crimping shareholder buybacks for years to come.

Six of the top US banks — JPMorgan Chase & Co., Bank of America Corp., Citigroup Inc., Wells Fargo & Co., Morgan Stanley and Goldman Sachs Group Inc. — are sitting on an estimated $118 billion in so-called excess common equity tier 1 capital, according to Bloomberg Intelligence. But that cushion could be nearly erased under the proposal, Bloomberg Intelligence found. 

FDIC Chair Martin Gruenberg said on Thursday that most banks would have enough capital to meet the proposed mandates, but five could face shortfalls. The agency estimates that it would take those banks about two years to make up for that shortfall even if they continue paying out dividends, assuming they continue producing profits at the same rate as they have in recent years.

 

Standardized Approach

Under the proposal, midsize banks would now have to include unrealized gains and losses from some securities in their capital ratios. 

The package likely won’t be implemented for years, and companies, consumer advocates and others will have the next four months to weigh in. Industry critics have said that requiring banks to set aside more capital could hurt competition and slow economic growth.

As part of the 1,087-page plan, regulators are also proposing changes to the way banks’ calculate their risk-weighted assets, which is a key component of certain capital ratios. 

The agencies want banks to use two different methodologies when calculating that figure: the current US standard methodology that considers an activity’s general credit and market risk, as well as a new expanded methodology that would also consider the activity’s operational risk as well as any credit valuation adjustment.

When a bank ultimately wants to calculate their capital ratios, it would have to use whichever methodology resulted in a higher level of risk-weighted assets.

“The whole bias of the international Basel framework has been that it is very skewed much toward credit risk,” Mayra Rodriguez Valladares, a financial risk consultant who previously worked at the New York Fed. “It’s less about market risk and certainly very little about operational risk. And that really is the weakest area for banks, and the regulators want to address this.”

Industry Pushback

Executives from some of the biggest firms have said increased requirements could slow the US economy and put them on weaker footing against nonbank lenders and European rivals. 

Kenneth Bentsen, who leads the Securities Industry and Financial Markets Association, said in a statement that the proposed changes around operational risk would penalize banks’ fee-based wealth management and investment-banking activities. 

“Imposing a punitive capital charge on businesses that provide steady fee income is misguided,” Bentsen said.

The proposal includes adjustments to a surcharge for the eight US global systemically important banks that would result in an additional $13 billion in capital requirements. Other changes include stiffer requirements for large banks’ residential mortgage portfolios when compared with international standards — which also raised concerns.

That treatment of home loans would increase borrowing costs and reduce credit availability for low-income and first-time mortgage borrowers, according to the Washington-based Mortgage Bankers Association.

“Given ongoing affordable housing challenges, regulators should be taking steps that encourage banks to better support real estate finance markets,” MBA President Bob Broeksmit said in a statement.

The FDIC and the FDIC voted during two separate open meetings Thursday to formally propose the entire package of rules. The regulators will seek public comment before voting again later to finalize them. 

–With assistance from Steve Dickson.

(Updates with market close, details on surcharge starting in sixth paragraph.)

More stories like this are available on bloomberg.com

©2023 Bloomberg L.P.