Fed 'punted' on capital, liquidity limits

The Federal Reserve's plan to boost supervision for U.S. banks stopped short of setting minimum liquidity levels and delayed decisions on risk-based capital and leverage until international regulators weigh in.

While companies must conduct stress tests and set internal liquidity limits under the Fed guidelines released yesterday, regulators didn't specify how much cash lenders must hold. The central bank said it would wait for the Basel Committee on Banking Supervision to implement capital surcharges. The industry will have a chance to comment on the proposal and may have more time to challenge rules.

"The Federal Reserve punted on its Dodd-Frank mandate to develop enhanced capital and liquidity rules for all systemically important financial firms," Joe Engelhard, senior vice president of Washington-based investment advisory firm Capital Alpha Partners LLC, said in a note to clients yesterday. "This seems to have engendered a relief rally, but it will also mean some prolongation of regulatory uncertainty."

The Fed, acting on a mandate of the Dodd-Frank Act, is developing standards geared toward averting another financial crisis and taxpayer bailout of the biggest financial firms. The rules target banks with assets of at least $50 billion — such as Bank of America Corp, JPMorgan Chase & Co and Wells Fargo & Co — and other firms deemed "systemically important."

The KBW Bank Index (BKX) of 24 US lenders climbed 4.1 percent yesterday, compared with a 3 percent gain for the broader Standard & Poor's 500 Index. The bank index has slumped 30 percent this year and the S&P has slipped 1.3 percent.

Capital Surcharges
The Fed said it would implement capital surcharges for U.S. banks based on guidelines issued by the Basel committee. The so- called Basel III rules give global banks until 2019 to increase their core capital ratios to as much as 9.5 percent of risk- weighted assets.

It hasn't been determined whether there will be a surcharge for U.S. banks with at least $50 billion in total assets that aren't deemed global systemic institutions, according to a Fed official who spoke on the condition of anonymity. The Fed's interpretation of Dodd-Frank's intent was to design standards that are proportional to the systemic footprint of a financial institution, the official said.

Barbara Hagenbaugh, a Fed spokeswoman, declined to comment.

The strength of the central bank's rulemaking hinges on how regulators react to public comment, former Fed Governor Randall S. Kroszner said in a telephone interview.

"While these rules will require considerable review and comment from the industry, we are pleased to see the Fed is taking a phased-in approach to a number of these measures," Ken Bentsen, executive vice president for public policy and advocacy at the Securities Industry and Financial Markets Association, a trade group in Washington, said in an e-mailed statement.

The Fed said its liquidity rules will build on March 2010 guidance and require that banks run stress tests to determine if they can withstand four scenarios, including overnight, 30-day and one-year crises. Only "unencumbered" and "highly liquid" assets may be considered within the first 30 days. Regulators requested comments on the definition of those assets.

The Fed's latest liquidity rules aren't "a dramatic departure," said Dwight C. Smith III, a partner in Washington at law firm Morrison & Foerster LLP. "There are elements that are new but they won't force changes in the business."

The Basel rules would require banks to keep enough cash or other easily liquidated investments on hand to survive a 30-day crisis, starting in 2015. The Basel committee stipulated the size of cash "outflows" banks should expect to experience in a crisis, including a minimum 5 percent of deposits and at least 10 percent of corporate credit lines.

The Clearing House Association, a group that includes 17 of the world's biggest banks including JPMorgan, Deutsche Bank AG and Banco Santander SA (SAN), wrote in a Nov. 2 letter to U.S. Treasury Secretary Timothy F. Geithner that the Basel rules "significantly understate the stock of liquid assets that firms could use to meet their short-term funding needs."