The Federal Reserve Board approved a rule to prevent concentrations of risk between large banking organizations and their counterparties from undermining financial stability. As demonstrated during the financial crisis, excessive exposure between the largest financial institutions spread contagion and eroded confidence in these institutions.
The final rule, which implements part of the Dodd-Frank Act, is generally similar to the proposal, and applies credit limits that increase in stringency as the systemic footprint of a firm increases. Like the proposed rule, a global systemically important bank holding company, or GSIB, would be limited to a credit exposure of no more than 15% of the GSIB’s tier 1 capital to another systemically important financial firm, reflecting Board staff’s analysis of the increased systemic risk posed when the largest firms have significant exposure to one another.
“This final rule is another step in sustaining an effective and efficient regulatory regime that keeps our financial system strong and protects our economy while imposing no more burden than is necessary to get the job done,” said Jerome H. Powell, chairman.
Like the proposal, a bank holding company with $250 billion or more in total consolidated assets would be restricted to a credit exposure of no more than 25% of its tier 1 capital to a counterparty. Foreign banks operating in the U.S. with $250 billion or more in total global consolidated assets, and their intermediate holding companies (IHCs) with $50 billion or more in total U.S. consolidated assets, would be subject to similar limits.
“The final rule adds to the robust capital and liquidity positions of the financial system today by setting out clear limits on credit exposures among the largest banking firms,” said Randal K. Quarles, vice chairman. “I am pleased by the final rule’s efficient approach to setting limits that are appropriately adjusted for firms of lesser systemic importance.”
Consistent with the recently passed Economic Growth, Regulatory Reform, and Consumer Protection Act, the limits in the final rule will apply only to GSIBs and bank holding companies with at least $250 billion in total consolidated assets. The board will consider the extent to which additional standards, including credit exposure limits, should apply to holding companies with total consolidated assets between $100 billion and $250 billion at a later date.
In response to comments, the final rule reduces regulatory burden by using common accounting definitions to simplify application of the exposure limits. In addition, a foreign bank’s combined U.S. operations, though not its U.S. IHC, will be considered in compliance with the final rule if a comparable rule is in effect in the foreign bank’s home country.
GSIBs will be required to comply by January 1, 2020, and all other firms are required to comply by July 1, 2020.