Activities, not size, better guide for bank risk: report

U.S. agency argues for new approach

WASHINGTON • The U.S. Congress and regulators should consider changing how they decide which large banks pose the greatest risk to the financial system, focusing more on how a bank acts than how many assets they hold, the U.S. government’s monitor of financial risk said on Thursday.

In a new report, the Office of Financial Research (OFR), charged with monitoring for potential risks that could lead to another major crisis, argues the federal government needs to consider a new approach to regulating banks that focuses on a range of activities rather than the current policy of applying increasingly stricter rules to banks according to their size.

The activities approach would more precisely ensure that regulators are closely watching smaller banks whose failures could still threaten the financial system, while easing the compliance burden on banks that may be large, but simpler, the agency said.

“A multifactor approach is superior to considering asset size alone to assess a bank’s systemic importance,” said OFR director Richard Berner on the agency’s website. “The correlation between size and risk is weaker for smaller companies.”

If the approach presented by the research agency were adopted by Congress and regulators, it could prove a boon to large banks with more conservative portfolios, like U.S. Bancorp and PNC Financial Services, which would be considered less systemic and may perhaps enjoy looser rules.

But smaller, more complex banks like Bank of New York Mellon Corp. and State Street Corp. would climb the rankings of systemically risky firms under the new approach.

The 18-page OFR report comes as lawmakers are currently considering whether to alter the existing US$50billion asset threshold for “systemically important financial institutions.”

That level, established as part of the 2010 Dodd-Frank financial reform law, subjects banks to a host of stricter rules, including annual stress testing and a requirement to submit “living wills” detailing how they could be dissolved.

Congress is mulling a change to that threshold, either by raising the level of the asset threshold or adopting an activities-based test.

Negotiations are under way among key members of the U.S. Senate Banking Committee. But it is not yet clear if any of those changes have the political support to become law, as part of a broader package of tweaks to existing financial rules. Banks like Bank of New York Mellon would be considered more systemically risky under the new approach.