Bowman outlines capital rule reforms for risk-calibrated growth
Federal Reserve Vice Chair Michelle W. Bowman outlined proposed rules to modernize US bank capital requirements at the Cato Institute. The reforms aim to eliminate overlaps, right-size calibrations, and better support credit flow to the real economy.
Rethinking capital: Efficiency and risk alignment
Capital requirements form the foundation of prudential regulation, but experience shows that overly calibrated low-risk activities produce unintended consequences.
Federal Reserve Vice Chair Michelle W. Bowman highlighted that such requirements constrain credit availability, push activity into the less-regulated nonbank sector, and add complexity without meaningfully enhancing safety.
She cited the global systemically important bank (G-SIB) surcharge as an example, which has become disassociated from actual risk.
Continuously increasing capital levels without specific purpose imposes real economic cost, impairing the banking system's function of providing credit to the real economy and leading to forgone economic growth.
The modernization effort evaluates each requirement on its merits, ensuring proper calibration to risk and avoiding unintended outcomes.
Targeted adjustments for a robust framework
The Federal Reserve is proposing modifications across four key pillars of its regulatory capital framework: stress testing, the supplementary leverage ratio, Basel III risk-based capital, and the G-SIB surcharge.
Reforms to Basel III aim to streamline risk-based capital calculations and enhance sensitivity to credit, operational, market, and CVA risks.
The G-SIB surcharge will be updated to better reflect systemic risks and align with international methods.
Additionally, capital requirements for smaller banks will be revised to reduce burden and increase flexibility.
Bowman stated that the Basel III proposal is expected to result in a small capital increase for the largest banks, while the G-SIB surcharge proposal would lead to a modest decrease, resulting in a small overall reduction in requirements.