Agencies Request Comment on Proposed Rules to Strengthen Capital Requirements for Large Banks (2024)
For release at July 27, 2023
Bank regulatory agencies today requested comment on a proposal to increase the strength and resilience of the banking system. The proposal would modify large bank capital requirements to better reflect underlying risks and increase the consistency of how banks measure their risks.
The changes would implement the final components of the Basel III agreement, also known as the Basel III endgame. Additionally, following the banking turmoil in March 2023, the proposal seeks to further strengthen the banking system by applying a broader set of capital requirements to more large banks. The proposal would generally apply to banks with $100 billion or more in total assets. Community banks would not be impacted by this proposal.
In particular, the proposal would standardize aspects of the capital framework related to credit risk, market risk, operational risk, and financial derivative risk. Additionally, the proposal would require banks to include unrealized gains and losses from certain securities in their capital ratios. These banks would also be subject to the supplementary leverage ratio and the countercyclical capital buffer, if activated.
The proposed improvements to strengthen the banking system are estimated to result in an aggregate 16 percent increase in common equity tier 1 capital requirements for affected bank holding companies, with the increase principally affecting the largest and most complex banks. The effects would vary for each bank based on its activities and risk profile. Most banks currently would have enough capital to meet the proposed requirements.
The proposal includes transition provisions to give banks sufficient time to adapt to the changes while minimizing any potential adverse impact. During the comment period, the agencies will collect data to further refine their estimate of the proposal’s impact. Under the proposal, large banks would begin transitioning to the new framework on July 1, 2025, with full compliance starting July 1, 2028.
Separately, the Federal Reserve Board today also requested comment on a proposal that would make certain adjustments to the calculation of the capital surcharge for the largest and most complex banks. The changes would better align the surcharge to each bank’s systemic risk profile, in particular by measuring a bank’s systemic importance averaged over the entire year, instead of only at the year–end value.
Comments on both proposals are due by November 30, 2023, which is more than 120 days for public comment.
Federal bank regulatory agencies announced today that they will extend until January 16, 2024, the comment period on their long-term debt proposed rule to improve the resolvability of large banks and enhance financial stability.
The agencies' July 2023 proposal to amend risk-based capital requirements for banks with more than $100 billion in total assets makes several important changes. For example, it would reduce or eliminate firms' reliance on internal models for calculating credit, market, and operational risks.
A primary purpose of bank capital is to protect depositors from losses and banks from failure. Ensuring adequate capital has been a consistent historical priority of US banking regulators as part of their role in promoting a safe banking system.
There are a few ways that banks can improve their capital adequacy ratios. One way is to increase the total capital required by financial regulators. They can also lower the total risk associated with the risk-weighted assets they hold.
On October 20, 2023, the US federal banking regulators announced that they were extending the period for public comment to January 16, 2024, for both (i) the Basel Endgame proposal to significantly revise the risk-based regulatory capital requirements for certain midsize and larger US banking organizations (the “ ...
Basel III introduces new capital buffer requirements that banks must maintain above the minimum capital ratios. These buffers are designed to ensure that banks build up capital reserves during good times that they can draw down during economic and financial stress periods.
In the U.S., adequately capitalized banks have a tier 1 capital-to-risk-weighted assets ratio of at least 4.5%. Capital requirements are often tightened after an economic recession, stock market crash, or another type of financial crisis.
Banks do adjust their capital ratios following changes in requirements, though the pass-through is incomplete. While they lower capital ratios following a loosening of requirements, they eat into their existing capital buffers when facing tighter regulatory minima.
Let's look at Joe, a small business owner. In his case, the capital requirements are the funds he needs in order to pay salaries to his employees next Friday, the rent and utility payments due on the first of the month, and the first installment for the design of a new advertising campaign.
Higher capital requirements can affect regulated banks differently depending on their size. In the short run, higher capital requirements might result in a less concentrated banking industry by reducing the largest banks' share of the loan market, thereby benefiting smaller banks.
By promoting competition, bank regulation helps to keep prices low for consumers and spurs innovation in the banking sector. Furthermore, bank regulators also supervise the activities of banks and enforce compliance with regulations.
Risk-based capital requirements are minimum capital requirements for banks set by regulators. There is a permanent floor for these requirements—8% for total risk-based capital (tier 2) and 4% for tier 1 risk-based capital. Tier 1 capital includes common stock, reserves, retained earnings, and certain preferred stock.
“By raising the risk weightage for loans to NBFCs, the money supply will get throttled, and result in higher capital requirements for banks. For banks to maintain risk-adjusted returns, lending rates need to go up.
The capital adequacy ratio is calculated by dividing a bank's capital by its risk-weighted assets. Currently, the minimum ratio of capital to risk-weighted assets is 8% under Basel II and 10.5% (which includes a 2.5% conservation buffer) under Basel III.
At the time of winding up of the company, the depositors assets are more important than the company's own finances. CAR ensures that a layer of safety is present for the bank to manage its own risk weighted assets before it can manage its depositors' assets.
After the comment period closes, the agency reviews all comments received and conducts a comment analysis. Then agencies decide whether to proceed with the rulemaking process or issue a new or modified proposal. In some cases they withdraw the proposal.
Federal Reserve Board regulations require bank holding companies to maintain a minimum Tier 1 capital ratio of 4% and a minimum total capital ratio of 8%.
There are numerous agencies assigned to regulate and oversee financial institutions and financial markets in the United States, including the Federal Reserve Board (FRB), the Federal Deposit Insurance Corp.(FDIC), and the Securities and Exchange Commission (SEC).
Known as the capital requirements regulation (CRR), the regulation aims to strengthen the prudential requirements of banks in the European Union (EU). This is done by requiring them to keep sufficient capital, loss-absorbing liabilities and liquid assets, in order to ensure their financial soundness.
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