Fed Unveils Capital Rule Adjustments for Banks

The Federal Reserve is modifying its capital guidelines for major banks, potentially easing activity in the Treasury market, a move that could affect interest rates and the economy’s financial structure.

Changes to Capital Requirements

On June 25, the American Federal Reserve revealed adjustments to its capital rules for large financial institutions. This change, according to the Fed, might enhance activity in the Treasury market. The board of governors voted 5-2 to alter a rule implemented following the 2008 financial crisis. Banks are mandated to hold a certain amount of capital relative to their assets to withstand financial instability.

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The proposal seeks to decrease the need for equity, known as the “Additional Reinforced Lever Ratio,” currently standing at 5% for the most prominent banks. The new strategy will undergo a 60-day public review period. A recent report showed that approximately 1.5 million Americans filed for unemployment benefits in the last quarter (Bureau of Labor Statistics).

Rationale and Reactions

The initial rule was a “safety net,” as stated by Fed Chair Jerome Powell. However, Mr. Powell noted that banks have increased their holdings of “relatively safe and low risk” assets over a decade. Consequently, the Fed is reconsidering its original strategy, as it does not want to “disperse banks to participate in low -risk activities,” especially in the bond market.

Allowing banks to increase their investment in obligations might relax interest rates and potentially relieve the cost of American state debt. The Federal Deposit Insurance Corporation (FDIC) will also convene to discuss the changes to the measure.

Vice-president of the Fed responsible for supervision, Michelle Bowman, stated that the proposal will “strengthen the resilience of the US Treasury markets.” She said it would minimize “the risk of market dysfunction and the need for the federal reserve to intervene” during financial issues.

“The proposal will help strengthen the resilience of the US Treasury markets.”

—Michelle Bowman, Vice-president of the Fed

However, some governors, such as Michael Barr, voiced concerns that lowering capital requirements could elevate the risk of bank failures. Rob Nichols, president of the American Bankers Association, characterized the proposal as a critical step to boost the financial system and “reduce banking financing costs.”