As U.S. financial markets evolve, the sector finds itself contending with new capital regulations that have the potential to reshape the landscape.
In the shadow of recent financial crises, regulators in the nation’s capital have implemented a vast overhaul of capital requirements, causing ripples of concern and critique within banking industry circles.
However, despite the backlash, the regulators persist in their endeavor to fortify the U.S. financial system.
Capital Regulations Reinforcing the Financial System
In an ambitious move, the top three bank regulators in the U.S. jointly released a proposal in late July advocating for a comprehensive reform that demands banks to augment their capital reserves by a substantial 16%.
The proposed revision was devised with an aim to bolster the U.S. financial structure and avert future financial crises. This elaborate regulatory overhaul means that banks would now need to hold a larger capital base to match the level of risk attributed to certain assets.
While this may dent returns on equity and profits, it’s argued to be a necessary step towards fortifying the financial system. Lobby groups, however, predict it will hamper lending to consumers and potentially dampen economic growth.
Despite witnessing three major bank failures in the spring of 2023, industry voices argue against the necessity of these measures.
They underline that even the Federal Reserve’s stress tests show that most banks are well-capitalized and robust, making these new regulations a remedy in search of a disease.
Banking Industry’s Stance and Its Implications
Aspects of the proposal expected to face significant resistance include the introduction of varied risk levels to be allocated to different assets.
Specifically, the risk management requirements relating to rental-backed real estate lending have been criticized, with critics contending that making such lending costlier would reduce the credit available to historically under-served borrowers.
Notably, the new regulations also earmark high-revenue business streams as higher risk. Fee-based ventures, such as wealth management, would have to apportion more capital, irrespective of balance sheet risk, potentially impacting trading in capital markets.
Major U.S. banks have cautiously reacted to the proposal. JPMorgan Chase expressed its disappointment, stating that the plan was poorly conceived and would hinder access to credit for consumers and small businesses.
Wells Fargo remained reticent, indicating only that the proposals might alter its risk metrics for lending and lead to an increase in capital requirements. Meanwhile, Citigroup chose not to comment, and Bank of America did not respond to comment requests.
According to some financial experts, the new risk-weight norms might drive more business to non-bank lenders that lie outside the regulatory purview.
The banking industry has had ample time to gear up for this reform, given that the proposal has been six years in the making. It is designed to finalize a set of post-financial crisis reforms known as Basel III “Endgame,” agreed upon in 2017 by the Basel Committee on Banking Supervision.
Yet, it may take the biggest U.S. banks up to four years to accumulate profits to meet the new capital rules.
The enhanced risk-weighted assets requirements are expected to amount to around $135 billion in additional capital, or about 200 basis points of common equity tier-one capital for the biggest banks.