U.S. News

Fed Proposes New Capital Rules for Banks

Edward Wyatt|The New York Times

WASHINGTON —The Federal Reserve on Tuesday proposed rules that would require the largest American banks to hold more capital —and to keep it more easily accessible—to protect against another financial crisis.

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But the Fed, the nation’s chief banking regulator, added that the final capital rules were unlikely to be more stringent than international limits that were still under development.

That is a small victory for banks who warned that they would be severely disadvantaged if capital requirements here were stricter than those governing overseas banks.

Bank representatives are still wary about details that remain to be worked out, however, including how much of an extra capital cushion would be imposed on the biggest of the big institutions like Bank of America , JPMorgan Chase and Citigroup .

In a 173-page proposal that tied to the Dodd-Frank regulatory law passed last year, the Fed also proposed formal limits on the amount of credit exposure that a bank holding company can have to any major borrower, be it another bank or corporation.

The goal is to prevent one bank from being susceptible to failure because of a relationship with another large institution. The lack of a cash cushion in the 2008 financial crisis caused many firms to try to rapidly unwind transactions that had troubled institutions on the other side of them, worsening a partner’s troubles and accelerating the market’s crash.

“A lot of the proposals are built around things that the Federal Reserve and other regulators believe did not work as well as they could leading up to the financial crisis,” said Deborah P. Bailey, a director in Deloitte & Touche’s banking and securities group. Over all, she added, the proposals “are designed to make sure that banks are strong and won’t need government help going forward.”

Of particular interest, she said, are provisions that require large banks to have a stand-alone committee of the board that would work with a company’s chief risk officer and be responsible for companywide risk management.

“Clearly that reflects the view that boards need to be more engaged and involved,” Ms. Bailey said.

Under the proposals, which will be open for public comment until March 31, banks with more than $50 billion in assets would be required, for now, to maintain a cushion equal to 5 percent of assets even during periods of unexpected stress. That standard is up from 4 percent previously and from much lower levels maintained by some large banks during the growth of the housing bubble.

That 5 percent is also the same level that was outlined by the Fed last month when it laid out plans for another round of bank stress tests. But the Fed also warned that banks will be required to match significantly stricter international requirements in the near future, including a larger amount of required capital based on a bank’s overall asset size.

The international standards, known as the Basel III accords, are expected to set capital requirements for the largest multinational financial institutions at 7 percent of capital plus a surcharge of up to 2.5 percent depending on a bank’s overall risk levels. Those standards are not expected to be phased in until 2016, at the earliest.

The Fed’s proposed rules also incorporate triggers intended to provide early warnings that a bank might be sliding into financial trouble. Those triggers would activate restrictions on growth, capital distributions and dividends, as well as limit executive compensation and asset sales.

The Federal Reserve tried in the proposals to address one of the central problems of the financial crisis: the interconnectedness of large financial institutions and its effect on bank stability.

For the roughly 30 banks in the United States with more than $50 billion in assets, the new requirements would limit their credit exposure to a single counterparty to 25 percent of the bank’s regulatory capital. The very largest banks face stricter limits of 10 percent of capital for credit exposure between two banks with more than $500 billion in total consolidated assets, or between one bank of that size and a large nonbank financial company.

Currently, there are only a handful of American banks with more than $500 billion in assets including Bank of America, Citigroup, JPMorgan Chase and Wells Fargo . The Fed and other regulators have yet to specify which nonbank financial companies will be treated as systemically important enough to be required to meet the stricter limits on credit exposure.

Individual banks were already subject to some limits on single-borrower lending and investments, but those limits did not apply to bank holding companies. The previous limits also did not account for credit exposures generated by derivatives and other complex transactions.

A trade group representing Wall Street firms and large banks expressed cautious optimism about the proposals, which are subject to revision based on public comments before they are finalized sometime next year.

“We are pleased to see the Fed is taking a phased-in approach to a number of these measures,” said Kenneth E. Bentsen Jr., an executive vice president at the Securities Industry and Financial Markets Association. He said he hoped that the final rules would help “to ensure the safety and soundness of our financial system while not significantly curtailing the system’s ability to contribute to economic growth and job creation.”

This article has been revised to reflect the following correction:

Correction: December 20, 2011

An earlier version of this article erroneously stated that only four American banks (Bank of America, Citigroup, JPMorgan Chase and Wells Fargo) had more than $500 billion in assets.