Extra loss-absorbing layers would be costly overkill on top of a thorough, safe resolution structure
Washington, D.C. – BPI today responded to the Federal Reserve and FDIC’s request for comment on whether the benefits of requiring large U.S. regional banks to maintain an extra layer of loss-absorbing capacity, on top of existing capital and resolution requirements, outweigh the costs when it comes to enhancing the resolvability of those banks.
What BPI is saying: “The idea for an extra layer of loss absorbency borrows from the resolution framework designed for the largest globally active banks, but it is an idea that is wholly ill-suited for large U.S. regional banks, which operate with entirely different business models and risk profiles. It would impose substantial and immediate additional costs on these banks, lead to competitive imbalance, and provide only modest potential benefit,” BPI General Counsel John Court said.
What’s happening: The Fed and FDIC are seeking input on whether large U.S. regional banks should implement resolution strategies like issuing an extra layer of unsecured, long-term debt to absorb losses if the bank fails. Policymakers designed those strategies specifically for Global Systemically Important Banks, which have very different business models and organizational structures than their large regional counterparts – for example, the GSIBs tend to have complex networks of material legal entities, significant international operations through multiple foreign subsidiaries, etc. The GSIB resolution strategies are both unnecessary and inappropriate for non-GSIB banks. The Fed and FDIC also assume that the failure of a large regional bank could have systemic consequences, but large regionals have much lower systemic risk scores than the largest global institutions. Additionally, while the agencies are seeking “optionality” in large regional bank resolution, regulators already have multiple options at their disposal in the event of a failure under the current framework.
Key points: The costs of this proposal are high, while the potential benefits are minimal.
- Less stable: A new long-term debt issuance requirement for large regional banks would require them to shift a portion of their funding mix from stable, low-cost deposits to more expensive, market-based borrowings. They would need to seek higher returns to offset higher funding costs. This effect would curtail credit availability and drive more financial activity to less regulated nonbanks.
- Exacerbating a downturn: Such a requirement is procyclical and could also amplify stress in the markets by forcing large regional banks to access the capital markets to issue debt amid volatile conditions. As a result, those banks would have to pass the higher costs of issuing long-term debt under stress to borrowers, thereby contributing to a worsening of the initial downturn.
Big picture: The measure comes as banking regulators are revisiting bank merger review standards with particular focus on large regional institutions. Policymakers should avoid the fallacy that bigger banks are inherently bad or riskier – scale in banking promotes competitive markets, more innovative services and stronger cybersecurity safeguards.
About Bank Policy Institute.
The Bank Policy Institute (BPI) is a nonpartisan public policy, research and advocacy group, representing the nation’s leading banks and their customers. Our members include universal banks, regional banks and the major foreign banks doing business in the United States. Collectively, they employ almost 2 million Americans, make nearly half of the nation’s small business loans, and are an engine for financial innovation and economic growth.