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THE Federal Reserve has shown other United States regulators a three-page document of possible changes to their bank-capital overhaul that would significantly lighten the load on Wall Street lenders, according to sources familiar with the matter.
The revisions would walk back key parts of the landmark proposal – including one that might have had a large effect on big banks with sizable trading businesses, said the sources, who asked not to be identified discussing details that are not public.
The Fed document does not include an updated estimate on how much additional capital that large banks would have to hold as a cushion against financial shocks. But the sources said early calculations suggest the proposed changes could lead to an increase as low as 5 per cent. The original version called for an overall 16 per cent hike.
Such a retreat would be a victory for Wall Street banks, which unleashed one of their fiercest lobbying campaigns after the proposal was unveiled last July. Substantial revisions to the plan are more likely to meet Fed chair Jerome Powell’s goal of attracting broad support from the central bank’s board.
Two Republican-appointed Fed governors have said the initial version could raise the costs of lending, affect the economy and put US banks on a weaker footing against international rivals.
Powell signalled earlier this year that the proposal was in for “broad and material changes”. Fed vice chair for supervision Michael Barr, seen as the architect of the original plan, later said the same.
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US officials have not yet reached an agreement, and it’s unclear whether they can get a revised package across the finish line before the US presidential election in November. Barr already has met with the heads of the Federal Deposit Insurance Corporation (FDIC) and the Office of the Comptroller of the Currency (OCC) to discuss lowering the capital hike, according to sources familiar with the matter.
Key OCC and FDIC officials were open to walking back an important part of the proposal – known as market risk – but have indicated privately that they would resist any capital increase that they consider too low, some of the sources said.
“The Federal Reserve has made no decisions on timing, process, or substance,” the central bank said. “The Fed is not targeting a specific range, but is instead focused on the substance of potential changes.” The FDIC and OCC declined to comment.
The KBW Bank Index of large bank stocks rose 1.65 per cent on Monday.
Trading business
The capital overhaul is tied to Basel III, an international accord that followed the 2008 financial crisis and is intended to prevent future bank failures and another crunch. Supporters of the US proposal have also billed it as a fix for some of the issues exposed by the collapses of Silicon Valley Bank and Signature Bank in March 2023.
Regulators are weighing changes to how the proposal assesses the level of risk tied to trading, wealth management and investment-banking activities – collectively known as market risk, according to some of the sources familiar with the matter. Although Powell voted to propose the plan last July, he raised concerns about the “very large increase” in a measure used to determine capital requirements related to market risk.
This part of the plan might have a significant effect on banks with large trading businesses. In comment letters to regulators, industry officials have said the proposed rule would lead to “outsized increases” in market-risk capital and would discourage diversified trading-business models and certain hedging practices that allow banks to manage risk.
As they look at market risk, regulators are considering the way banks would use internal models to calculate risks linked to trading, according to some of the sources familiar with the matter. The Fed document also includes recommended changes in the treatment of operational risk that would affect a broad range of banks, they said.
The European Union, which has watched the backlash against the US proposal with trepidation, plans to delay a key part of its capital rules by a year so its banks will not be at a disadvantage. The EU had been set to implement the broad package on Jan 1, 2025, but confirmed earlier this month that it will hold off for an extra 12 months on rules that affect banks’ trading activities.
Non-bank competition
One criticism of the original version of the US plan is that it could put the country’s banks at a competitive disadvantage to nonbank lenders and overseas banks. The EU’s proposal would lead to about a 10 per cent gain in Tier 1 capital requirements when fully implemented. The US increase of 16 per cent is based on common equity Tier 1, or CET1, capital – the highest quality of regulatory capital covering liquid holdings like cash and stock. It represents the bulk of Tier 1 capital.
Under the plan proposed last July, the eight largest US banks, including JPMorgan Chase, Morgan Stanley, Bank of America, Goldman Sachs Group and Citigroup, could face an overall 19 per cent jump in CET1 capital.
The proposal generally applies to banks with US$100 billion or more in assets.
American officials have said that most US banks have enough capital to meet the higher requirements, which could be phased in starting in 2025 if approved. But for the largest banks, Bloomberg Intelligence estimates that the draft rules could wipe out as much as US$155 billion in excess capital, the amount that goes beyond current regulatory requirements, and may lead to collective shortfalls.
Advocates for tougher rules say any shortfalls could be addressed if banks hung onto to more of their profits rather than using them to fund stock buybacks and pay higher dividends.
Banks said they are already well-capitalised to withstand a crisis and that the proposed changes would ultimately hurt consumers and small businesses. They pushed for major changes to the overhaul – or even scrapping the entire plan. In March, Powell did not rule out a complete redo.
The Fed and other regulators had been forging ahead with the proposal, and some officials had hoped to finalise it as soon as August.
Though officials were planning notable changes, US administrative law requires that they not veer too far from what was proposed. A decision to move ahead with a version based on the original plan could reduce the effect of a potential consolidation of power in November by Republicans, many of whom support the industry’s arguments.
Tossing out the plan and starting from scratch would be more likely to delay finalisation until after the US elections. The Fed’s document does not make any mention of a do-over, according to some of the sources. BLOOMBERG
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