In a letter to the FED Governors, the U.S. Senator Sherrod Brown, who is a member of the U.S. Senate Committee on Banking, Housing, and Urban Affairs, called on the FED to use its prudential authorities, including the countercyclical capital buffer (CCyB) for the biggest banks, to strengthen the resilience of the financial system and protect against the next economic downturn. Referring to the fact that the largest banks in the U.S. reported record profits to the tune of USD 100 billion, Senator Brown highlighted that the "systemic vulnerabilities are becoming more apparent."
He mentioned that now is the time to require additional capital buffers that large banks could draw on to mitigate a large adverse financial shock. The FED last considered the CCyB requirements in December 2017 and, at that time, voted to leave it at 0%. According to the FED, “circumstances in which the Board would most likely use the CCyB … would be to address circumstances when systemic vulnerabilities are somewhat above normal.” Under the policy statement, FED will consider a number of financial system vulnerabilities, including asset valuation pressures and risk appetite and leverage in the nonfinancial sector. These systemic vulnerabilities are becoming more apparent. The letter also mentioned that, recently, the former FED Chair Yellen urged FED "to carefully consider raising the CCyB at this time.” She noted elevated asset valuations in the real estate sector, the large volume of leveraged lending with a significant weakening of underwriting standards, and the high debt burdens of nonfinancial companies as threats to economic stability during the next downturn.
Senator Brown also cited the credit rating agency Moody’s Investor Service, stating that weak lending practices and increased lending to lower quality corporate borrowers “are creating credit risks that portend an extended and meaningful default cycle once the current expansion ends.” and that "Moody’s envisions more defaults than the last downturn and lower recoveries." According to Senator Brown, while capital quality and levels have increased since the crisis, capital levels are below the optimal amount needed to insulate American taxpayers from future bailouts. A comprehensive examination by FED economists found that current Basel capital surcharges for global systemically important banks (G-SIBs) are less than half the size than would be economically justified by an “expected impact” framework based on the economic effect of large bank failure. The same study also suggests that U.S. large bank surcharges currently set by FED, while larger than the Basel surcharges, are likely still considerably lower than the economically optimal level. "Instead of increasing capital, it appears the FED is heading in the wrong direction as it has started to take steps to reduce certain capital requirements."
Related Link: Press Release and Letter
Keywords: Americas, US, Banking, Systemic Risk, G-SIB, CCyB, Capital Buffer, FED, US Senate Committee
Sam leads the quantitative research team within the CreditEdge™ research group. In this role, he develops novel risk and forecasting solutions for financial institutions while providing thought leadership on related trends in global financial markets.
Previous ArticleOCC Proposes to Revise Company-Run Annual Stress Test Reporting Form
PRA, via the consultation paper CP12/20, proposed changes to its rules, supervisory statements, and statements of policy to implement certain elements of the Capital Requirements Directive (CRD5).
EIOPA published the financial stability report that provides detailed quantitative and qualitative assessment of the key risks identified for the insurance and occupational pensions sectors in the European Economic Area.
EBA published its risk dashboard for the first quarter of 2020 together with the results of the risk assessment questionnaire.
EBA announced that the next stress testing exercise is expected to be launched at the end of January 2021 and its results are to be published at the end of July 2021.
PRA published the consultation paper CP11/20 that sets out its expectations and guidance related to auditors’ work on the matching adjustment under Solvency II.
MAS published a statement guidance on dividend distribution by banks.
APRA updated its capital management guidance for banks, particularly easing restrictions around paying dividends as institutions continue to manage the disruption caused by COVID-19 pandemic.
FSB published a report that reviews the progress on data collection for macro-prudential analysis and the availability and use of macro-prudential tools in Germany.
EBA issued a statement reminding financial institutions that the transition period between EU and UK will expire on December 31, 2020; this will end the possibility for the UK-based financial institutions to offer financial services to EU customers on a cross-border basis via passporting.
SRB published guidance on operational continuity in resolution and financial market infrastructure (FMI) contingency plans.