Big banks will need to hold more capital to guard against risk under new Fed proposal

27 July 2023

NEW YORK (AP) — The nation’s biggest and most complex banks will need to hold additional capital on their balance sheets under an initial proposal by the Federal Reserve designed to help banks better withstand risks to their businesses that go beyond a recession or financial crisis.

The proposal released Thursday, boiled down from highly complex and technical nuances, roughly means that Wall Street collectively will have to set aside tens of billions of dollars to meet the Fed’s new rules. Banks that rely more on fee income will see a greater impact than those holding bonds and other securities.

The main question addressed by the proposal is how banks over $100 billion in assets should value what are known as risk-weighted assets on their balance sheet when determining how much of a buffer the bank has to withstand market gyrations and economic fluctuations. Risk-weighed assets came out of what is known as the Basel Accords, an international agreement among banks, whose most recent iteration known as Basel III came after the 2008 financial crisis.

“Capital is foundational to the safety and soundness of the banking system, and capital requirements should align with the risks that a bank’s activities pose to its own safety and soundness and financial stability,” wrote Michael Barr, the Fed’s vice chair for supervision, in a statement Thursday.

Under the Fed’s proposal, banks that rely on more volatile sources of income such as fees and trading might have to set aside more to meet these Basel III requirements. Banks such as Morgan Stanley, or even a credit card company such as American Express, would be more impacted because their business models are heavily weighed toward fee income.

The proposal also takes aim at those banks with between $100 billion to $250 billion in assets, which have been among the most impacted by the banking panic that started in March this year with the collapse of Silicon Valley Bank and Signature Bank, as well as the failure of First Republic Bank.

Fed policymakers have said repeatedly that there needs to be more supervision of these big-but-not-gargantuan institutions.

The banking industry had a hostile reaction to the Fed’s proposal. Banks have long contended that they hold more than enough capital to withstand even a global financial crisis — pointing to the COVID-19 pandemic and other industry reforms since 2008, such as the Fed’s “stress tests.” The industry’s main argument is that capital that has to be warehoused on a bank’s balance sheet is capital that cannot be used to fund loans, make trades, or return profits to shareholders through stock buybacks or dividends.

“It is essential that policymakers take steps to fully understand its costs and benefits in the months ahead while also seriously considering industry feedback ahead of issuing a final rule,” said Lindsey Johnson, president and CEO of the Consumer Bankers Association, in a statement.

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