A clash over tougher bank capital rules comes to Capitol Hill
When Federal Reserve chair Jerome Powell appeared before Congress this week, it was for his twice-a-year testimony on monetary policy. But the hottest topic by far was the tougher funding rules coming for America's larger banks.
Why it matters: It is the beginning of a new era ahead for the nation's banking system, with regulators looking to require big banks to have significantly higher capital ratios.
- The aim is to make the financial system less prone to crises, an even bigger priority after this year's bank failures.
- But the pressure Powell faced this week previews the backlash to come, with Republican lawmakers and bank lobbyists arguing those rules may go too far, hurting the economy by crimping banks' capacity to lend.
Driving the news: Bank regulators are still drafting the blueprint for what those stricter standards will look like, with a proposal set to be released soon.
- That proposal will reflect an agreement, finalized most recently in 2017, by a group of global central bankers who gather regularly in Basel, Switzerland, at the Bank for International Settlements.
Flashback: In his final days as the Fed's top regulator, Randal Quarles said in 2021 that fully implementing the agreement could increase capital levels by as much as 20%.
What they're saying: "If you require banks to fund more of their lending with more capital, that's going to increase the cost of borrowing and reduce availability of credit in the economy," says Sean Campbell, chief economist at the Financial Services Forum, which represents the nation's eight biggest banks.
- Higher capital requirements would increase banks' cost of funds — stock investors expect higher returns than bank depositors, after all. That could lead them to either contract lending or make loans on more onerous terms.
- They could also lose market share to lenders that aren't banks, shifting activity to less-regulated parts of the financial system.
The big picture: "It's always a tradeoff. More capital means a more resilient banking system but, at the margin, it can mean a little bit less credit availability," Powell said this week. "You want to get that balance right."
- Republican lawmakers argued it's already getting tougher to get a loan, a result of the Fed's intense rate-hiking campaign and fallout from the collapses of Silicon Valley Bank and others.
- But regulators set capital rules for the long term, not as part of a tactical policy for dealing with today's economic circumstances. Any new rules would have a lengthy phase-in period, and economic conditions could be different than that of current times. (Powell did acknowledge banks might start adjusting to new rules earlier, as a Cleveland Fed study suggests.)
- And the politics are straightforward. Biden appointees now control bank regulation and are more focused on reining in the riskiness of the banking system than their Republican-appointed predecessors.
Much of the conversation in Powell's hearings this week was about someone who wasn't even present, Fed vice chair for supervision Michael Barr. Powell himself was circumspect and noncommittal about the scope of the new capital requirements.
Between the lines: Barr's position was created by the Dodd-Frank Act 13 years ago and assigned statutory responsibility for overseeing the central bank's actions in the regulatory arena. (As it happens, Barr helped craft that law while working in the Obama Treasury Department.)
- Powell's apparent deference to Barr in these matters reflects both the law and a long tradition in which Fed chairs take their cues in regulatory matters from the current administration — in contrast to monetary policy, which is supposed to be more walled-off from politics.
Another key figure in shaping the new rules is Martin Gruenberg, the head of the Federal Deposit Insurance Corporation. In an appearance Thursday, he emphasized the need for tougher rules for banks with at least $100 billion in assets.
- "There's no good time ... to raise capital. I've learned that lesson," Gruenberg said at the Peterson Institute for International Economics. "In good times, people say, 'You don't need to do it.' In bad times, they say 'Do it during good times.'"
The intrigue: Gruenberg said the tougher capital rules being considered now may have staved off SVB's failure.
- "[T]he loss of market confidence that precipitated [SVB's] run was prompted by the sale of assets at a substantial loss that raised questions about the capital adequacy of the bank."