Fed to propose banks would have to hold enough easy-to-sell assets to survive a 30-day credit; estimates a shortfall of about $200 billion in liquid assets across all institutions as a result of the rule

Fed to Propose Banks Hold Funds for Credit Drought

By Jesse Hamilton and Jim Brunsden – Oct 24, 2013

(Corrects spelling of law firm in last paragraph.)

Banks would have to hold enough easy-to-sell assets to survive a 30-day credit drought under a rule to be proposed today by the Federal Reserve that may have the greatest effect on banks with big trading operations such as JPMorgan Chase & Co. (JPM) and Goldman Sachs Group Inc. (GS) The demand for 30 days of liquidity is intended to satisfy global Basel III accords for strengthening the financial system. Increasing the banks’ liquid assets is meant to make them less vulnerable in a crisis like the one that struck in 2008.“It’s always been viewed as something that had more relevance for the trading banks,” said former Fed lawyer William Sweet, adding that it will hit them harder because of their more urgent need for short-term funding. Banks’ broker-dealer units must raise money in the market because they can’t rely on deposits to finance their activities.

In January, the Basel Committee on Banking Supervision agreed on a liquidity coverage ratio meant to ensure that banks can survive a 30-day credit squeeze. The standard to be fully implemented by 2019 allows lenders to go beyond cash and low-risk sovereign debt to an expanded range of assets including some equities and securitized mortgage debt, according to the agreement.

The rules to be advanced by the Fed today must also be proposed and opened to public comment by the Federal Deposit Insurance Corp. and Office of the Comptroller of the Currency.

In previous measures to satisfy Basel committee accords, U.S. regulators have sometimes been tougher than the international body. For example, leverage limits proposed by the agencies in July for eight of the largest U.S. banks would as much as double the 3 percent level set in Basel as the minimum capital that banks must hold against their assets.

‘More Rigorous’

“The implementation by the U.S. of the Basel rules have had more rigorous requirements than those implemented elsewhere,” said Sweet, a partner at Skadden, Arps, Slate, Meagher & Flom LLP in Washington.

The multiagency liquidity proposal will probably target the largest banks, according to a Morgan Stanley research report yesterday, which said Bank of America Corp., Citigroup Inc. (C), Goldman Sachs, JPMorgan and Wells Fargo & Co. (WFC) all indicate they already meet the Basel requirement. Morgan Stanley said the proposal will probably allow government-sponsored enterprise debt while excluding private-label mortgage securities.

Financial rules on everything from capital to liquidity are set at the global level by the Basel committee, a group of central bankers and regulators from 28 nations including the U.S., U.K. and China. They are in turn overseen by the Group of Governors and Heads of Supervision, which is led by Bank of England Governor Mark Carney, with meetings attended by central bankers such as Fed ChairmanBen S. Bernanke and the European Central Bank’s Mario Draghi.

Liquidity Tussle

The liquidity coverage ratio was at the center of an international tussle last year, as some central bankers and regulators warned that a draft version of the standard risked causing a credit crunch, while others urged against a wholesale watering down of the measure.

The European Central Bank and the Bank of France were among authorities that warned of negative side effects. ECB president Draghi told lawmakers that the draft standard “strongly penalizes interbank lending.” Regulators also expressed concern that it would curtail lending and make it harder for banks to implement monetary policies.

The Basel liquidity rule agreed on in January expanded beyond an earlier version in what counts as high-quality liquid assets, including acceptance of a limited amount of corporate debt, riskier sovereign debt and common equity. The watered-down rule also gave banks more breathing room, pushing full compliance out another six years.

“It’s clearly a significant component of the overall Basel III capital and liquidity framework,” said Luigi L. De Ghenghi, who advises banks on regulation at Davis Polk & Wardwell LLP in New York. He said it’ll be watched with “great interest.”

To contact the reporter on this story: Jesse Hamilton in Washington at jhamilton33@bloomberg.net.

 

U.S. sets bank liquidity plan, says tougher than Basel

4:50pm EDT

By Douwe Miedema and Emily Stephenson

WASHINGTON, Oct 24 (Reuters) – U.S. regulators unveiled a plan on Thursday for banks to hold enough assets they can easily sell to survive a credit crunch, calling on U.S. banks to meet new liquidity standards two years before most foreign banks must comply.

The proposal, which tells banks to hold enough liquid assets to meet their cash needs for 30 days, is a key plank of the Basel III capital rules agreed globally to make banks safer after the 2007-09 credit crisis.

Federal Reserve officials voted unanimously to propose U.S. rules with a shorter transition timeline than Basel calls for, and a stricter standard for how banks calculate their liquid asset needs.

“Since financial crises usually begin with a liquidity squeeze that further weakens the capital position of vulnerable firms, it is essential that we adopt liquidity regulations,” Fed Governor Daniel Tarullo said at a meeting on Thursday.

Regulators said the liquidity rules would ensure that, in a crunch, banks would have enough government debt and other easy-to-sell assets on hand to cope with customer withdrawals, post collateral and meet other needs.

Banks with $250 billion or more in assets, such as JPMorgan Chase & Co and Goldman Sachs Group Inc, must meet the full requirement, while banks with less than $50 billion would be exempt. Mid-sized banks that fall in between would be subject to a less stringent liquidity requirement.

Fed staff estimated a rough shortfall of about $200 billion in liquid assets across all institutions as a result of the rule, a gap the banks would have until 2017 to address.

The international version gave banks until 2019 to fully comply because of concerns that a quick transition would hamper economic growth.

“It’s clear that the other guys won’t have to have that money squirreled away for several more years after our guys,” said Bill Sweet, a partner with the law firm Skadden, Arps, Slate, Meagher & Flom.

Fed officials said they decided on the shorter timeframe because U.S. banks already appeared to be close to complying.

JPMorgan, Goldman Sachs, Citigroup Inc and Morgan Stanley all have said previously that they had enough liquid assets stockpiled to meet the Basel requirements. None commented specifically on the new rules.

TOUGHER VERSION

Under the Basel rule, banks would calculate their expected obligations and hold enough liquid assets to cover net cash expenditures at the end of a 30-day period.

In a twist, the Fed’s rule calls for banks to calculate liquidity ratios based on the particular day when cash outflows are the highest. That could mean U.S. banks need more liquid assets than they would under the international rule, said Oliver Ireland, a partner at the law firm Morrison Foerster who also has worked at the Fed.

“Essentially, what they’ve done is they’ve created a higher ratio,” he said.

“You could have real volatility in liquidity during a period because of just cash flow issues generally, how they shape up, and so this could be a very big deal,” said Ireland, who also expected banks to push back against the change.

Banks will have 90 days to submit comments after which regulators will decide whether to make the plan final. The Federal Deposit Insurance Corp and the Office of the Comptroller of the Currency are expected to propose similar rules.

U.S. government debt and excess reserves held at the Fed are deemed the most liquid under the Fed’s proposal, while claims on government-sponsored enterprises, such as mortgage finance giants Fannie Mae and Freddie Mac, are less liquid and might make up only 40 percent of the buffer.

Covered bonds, private-label mortgage securities and municipal debt would not count toward the liquidity buffer, Fed staff said.7

Regulators already keep an eye on banks’ liquid assets, and the Fed has proposed requiring U.S. banks to conduct liquidity stress tests. This is the first quantitative requirement governing liquid assets, Fed officials said.

International regulators also are working on a longer-term liquidity standard, the so-called net stable funding ratio, which will also be implemented in the United States.

“While this is an important step forward, there’s still more work to do,” said Janet Yellen, the Fed’s vice chairman and President Barack Obama’s choice to lead the agency next.

“There certainly remains a need to address the financial stability risks associated with short-term wholesale funding transactions,” she said.

The net stable funding ratio rule has not yet been finalized by the Basel group.