OFR Paper on a Multifactor Approach to Identifying Systemic Banks
OFR published a Viewpoint paper examining the use of a multifactor approach to identify the systemically important banks. The paper argues that a multifactor approach is superior to considering size alone in determining systemic importance.
U.S. bank regulators often use asset-size thresholds, assuming that larger banks pose more risks than smaller banks. An alternative approach, used to identify global systemically important banks (G-SIBs), relies on multiple measures, not just size. Analysis suggests that using such a multifactor approach to identify non-G-SIB U.S. banks for enhanced regulation—one focused on systemic importance—would be an improvement on the asset-size thresholds now used. For large banks that are not G-SIBs, asset-size thresholds are too simplistic to assess systemic importance. For this second tier of banks, a modified version of the G-SIB multifactor approach could help determine the appropriate level of enhanced regulation. European regulators are taking such an approach, a more nuanced way to identify how to subject the banking operations of non-G-SIBs to enhanced standards.
The paper emphasizes that modifications would be needed to overcome two shortcomings of the multifactor approach. The first shortcoming involves substitutability. The current G-SIB approach may understate the systemic importance of some banks that provide critical services. The regulation establishing extra capital surcharges for U.S. G-SIBs either caps or eliminates substitutability measurements. Although the Basel Committee has proposed some modifications, these changes still do not address the concentration of critical services in a bank that substitutability indicators need to capture. More work on substitutability indicators is needed. The second shortcoming is that the existing multifactor approach may understate the risks posed by the U.S. operations of some foreign G-SIBs. The operations of foreign banks’ U.S. branches and agencies are not required to disclose systemic importance indicators annually on the FED Form Y-15, even though some of these firms’ footprints and operations are significant. Some foreign G-SIBs have U.S. intermediate holding companies and branches, but the combined risks of these operations are considered in only one regulation implementing enhanced prudential standards.
Related Link: Viewpoint Paper (PDF)
Keywords: Americas, US, Banking, G-SIB, Systemic Risk, Multi-Factor Approach, Viewpoint Paper, OFR
Featured Experts
Blake Coules
Across 35 years in banking, Blake has gained deep insights into the inner working of this sector. Over the last two decades, Blake has been an Operating Committee member, leading teams and executing strategies in Credit and Enterprise Risk as well as Line of Business. His focus over this time has been primarily Commercial/Corporate with particular emphasis on CRE. Blake has spent most of his career with large and mid-size banks. Blake joined Moody’s Analytics in 2021 after leading the transformation of the credit approval and reporting process at a $25 billion bank.
Related Articles
SEC Finalizes Climate-Related Disclosures Rule
The U.S. Securities and Exchange Commission (SEC) has finalized the long-awaited rule that mandates climate-related disclosures for domestic and foreign publicly listed companies in the U.S.
US Regulators Release Stress Test Scenarios for Banks
The U.S. regulators recently released baseline and severely adverse scenarios, along with other details, for stress testing the banks in 2024. The relevant U.S. banking regulators are the Federal Reserve Bank (FED), the Federal Deposit Insurance Corporation (FDIC), and the Office of the Comptroller of the Currency (OCC).
Asian Governments Aim for Interoperability in AI Governance Frameworks
The regulatory landscape for artificial intelligence (AI), including the generative kind, is evolving rapidly, with governments and regulators aiming to address the challenges and opportunities presented by this transformative technology.
EBA Proposes Operational Risk Standards Under Final Basel III Package
The European Union (EU) has been working on the final elements of Basel III standards, with endorsement of the Banking Package and the publication of the European Banking Authority (EBA) roadmap on Basel III implementation in December 2023.
EFRAG Proposes XBRL Taxonomy and Standard for Listed SMEs Under ESRS
The European Financial Reporting Advisory Group (EFRAG), which plays a crucial role in shaping corporate reporting standards in European Union (EU), is seeking comments, until May 21, 2024, on the Exposure Draft ESRS for listed SMEs.
ECB to Expand Climate Change Work in 2024-2025
Banking regulators worldwide are increasingly focusing on addressing, monitoring, and supervising the institutions' exposure to climate and environmental risks.
BIS Bulletin Examines Cognitive Limits of Large Language Models
The use cases of generative AI in the banking sector are evolving fast, with many institutions adopting the technology to enhance customer service and operational efficiency.
ECB is Conducting First Cyber Risk Stress Test for Banks
As part of the increasing regulatory focus on operational resilience, cyber risk stress testing is also becoming a crucial aspect of ensuring bank resilience in the face of cyber threats.
EBA Continues Momentum Toward Strengthening Prudential Rules for Banks
A few years down the road from the last global financial crisis, regulators are still issuing rules and monitoring banks to ensure that they comply with the regulations.
EU and UK Agencies Issue Updates on Final Basel III Rules
The European Commission (EC) recently issued an update informing that the European Council and the Parliament have endorsed the Banking Package implementing the final elements of Basel III standards