The eight largest U.S.-based banks can expect to see “significant” increases in their capital reserve requirements as the U.S. Federal Reserve System continues to fine-tune its stress-testing practices, Daniel K. Tarullo, a member of the Board of Governors of the Federal Reserve System, said in a policy address at the Yale School of Management.
Tarullo discussed the Fed’s latest regulatory developments during a Leaders Forum event on September 26.
Tarullo, who oversees regulatory efforts as chairman of the Fed’s Committee on Bank Supervision, shared the results of an extensive review the Fed has conducted of its stress testing program, which measures the ability of banks to survive hypothetical financial crises, and its Comprehensive Capital Analysis and Review (CCAR) programs, which assesses banks' capital adequacy. The stress tests were mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act in the wake of the 2008 financial crisis.
Steps the Fed will take to update its stress-testing regimen include the creation of a “stress capital buffer.” This measure will require CCAR banks to increase their current capital requirements if stress tests indicate that the bank’s losses could exceed 2.5% of common equity Tier 1 capital, the highest quality capital, under adverse conditions. If firms do not hold sufficient capital, they will be subject to capital distribution and bonus payment restrictions, Tarullo said.
“In short, the global systemically important banks will see their capital requirements rise,” he said. “All other CCAR firms will see some reduction in their capital requirements. And firms that have less than $250 billion in assets and do not have extensive international or nontraditional banking activities will also transition to a more tailored set of capital planning expectations outside the CCAR process.”
Other steps the Fed will take include integrating more ‘macroprudential’ elements into stress testing—paying greater attention to potential effects on the financial system as a whole—and promoting greater banking transparency.
“Transparency of the scenarios and results gives investors and analysts valuable information about the condition of the tested banks, thereby contributing to market discipline,” Tarullo said. “It also allows the public to evaluate the job that the Federal Reserve is doing.”
About the Event
Mr. Tarullo will be speaking about Next Steps in the Evolution of Stress Testing. Following his remarks, there will be a question and answer session with the audience moderated by Andrew Metrick, Michael H. Jordan Professor of Finance and Management.