RULES LIKELY TO BE RELAXED, WITH BIG BANKS BENEFITING MOST
BANKS, FROM PAGE 1:
strong.”
Under the Fed’s proposed new method, Bank of America and Goldman Sachs’ leverage ratio would most likely drop from 5 percent to 4.25 percent of their assets and certain off-balance sheet holdings, while Wells Fargo’s might fall to 4 percent. Capital required for eight large banks under the proposed leverage ratios is around $86 billion less than the amount demanded at the 5 percent level, according to calculations by The New York Times.
The Fed, in explaining the impact of the changes, said capital held by the banks would not fall by much. That’s because a second set of capital requirements, based on assets’ riskiness, would be set higher than the leverage ratio after the changes. The Fed estimated a theoretical reduction of $9 billion across the eight banks. That amount would be even smaller once the Fed’s annual tests of banks’ strength are taken into account.
But as regulators adjust capital rules in the coming months, the big banks are expected to enjoy significant relief. Several proposed changes could free up more than $50 billion of capital at large banks, according to recent research by Goldman Sachs, money that could in theory be distributed to shareholders.
The changes are part of a push, spearheaded by Randal Quarles, who oversees bank supervision at the Fed, to ease some of the regulations that came into effect after the financial crisis of 2008. The leverage ratio proposal builds on ideas that were under discussion at the Fed before Quarles’ confirmation as a Fed governor last year but go beyond that approach. It is prompting concern from those who view the leverage ratio as an important tool to help protect the financial system by preventing banks from becoming overextended.
“The leverage ratio was a much better predictor of financial health of banks going into the crisis,” said Sheila C. Bair, who was head of the FDIC during the tumult of 2008, and who does not support the proposed changes.
The change most likely won’t lead to an immediate weakening of the financial system. But, over time, if the financial industry keeps pressing for looser regulations, and Washington obliges, there is concern that the absence of a strong leverage ratio could reduce confidence in the financial system, particularly in periods of stress.
The leverage ratio’s importance is revealed in how large banks finance themselves. They get most of the money they need for lending and trading from two main sources — they borrow it in markets or they raise it from depositors. But an overreliance on those two sources can leave a bank vulnerable to runs, because many of the creditors and depositors can demand the bank return their money at short notice. That is why banks must get some of their funding from equity capital, which consists of retained profits and funds from shareholders, who cannot demand immediate repayment of their money.
Some capital rules allow banks to hold less capital against an asset that is perceived by regulators to be less risky. The weakness of this approach was revealed in 2008 and during the European debt crisis when supposedly safe assets turned out to be dangerously risky. The lever- age ratio, by contrast, requires banks to have a set amount of capital, regardless of the type of assets it holds.
Acknowledging the importance of the leverage ratio, regulators increased it for the largest banks four years ago. At the higher ratio, the big banks had to have capital equivalent to 5 percent of their assets and certain off-balance sheet holdings. Under the new rule, it would decline significantly. The Fed and the Comptroller want to set the ratio at 3 percent, and then add half of a capital surcharge that is applied to eight large U.S. banks because their operations pose a heightened risk to the global financial system. (Daniel Tarullo, the Fed governor who previously oversaw bank supervision, floated this sort of change a year ago, but his suggestion would not have led to lower leverage ratios for three banks and it would have resulted in smaller reductions for the five others.)
Bank representatives say the leverage ratio has been a crude tool that has not made the financial system safer. “The best analogy is that it’s like having the same speed limit for every road in the country,” said Greg Baer, president of the Clearing House Association, which represents banks.
Supporters of the leverage ratio, however, say it should be at least as important as the malleable capital requirements, to provide reliable protection in a storm. “It’s important to have strong, vigilant regulators but we shouldn’t put all of our faith in them,” Gregg Gelzinis of the left-leaning Center for American Progress said. “We should have this capital requirement that is simple, transparent and doesn’t rely on expert determinations.”