Federal Reserve Board Releases Proposed Revised Prudential Standards for Non-U.S. Banks
International Banking columnist Kathleen A. Scott discusses highlights from two proposals recently issued from the Board of Governors of the Federal Reserve System.
May 07, 2019 at 12:30 PM
10 minute read
On Nov. 29, 2018, the Board of Governors of the Federal Reserve System (FRB) published for public comment proposed regulations to revise the current prudential standards regulatory framework for U.S. banking organizations according to their risk profiles. At the time, the FRB stated that similar proposals for non-U.S. banks with banking operations in the United States would be proposed later. On April 8, 2019, the FRB announced that it was issuing a notice of proposed rulemaking to revise the prudential standards regulatory framework for non-U.S. banks that operate in the United States, also to align the standards more closely to the risk profiles of the particular banks. The FRB also proposed specific liquidity management requirements for the U.S. operations of non-U.S. banks. This month's column will discuss highlights of both proposals.
|A Little Background
Under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank), banking organizations, both U.S. banking organizations, and non-U.S. banking organizations with U.S. banking operations, that had total consolidated assets of $50 billion or more were deemed by statute to be a risk to the financial stability of the U.S. financial system and became subject to a series of regulatory requirements imposed by the FRB, including stress testing, liquidity risk management, capital buffers, enhanced risk management, and single counterparty credit limits. In 2018, the $50 billion threshold was raised to $250 billion in the Economic Growth, Regulatory Relief, and Consumer Protection Act.
In March 2014, the FRB issued final regulations on prudential standards for both U.S. banking organizations and non-U.S. banking organizations. In October 2014, it issued final liquidity cover ratio regulations for U.S. banking organizations.
When the FRB issued proposed revisions to the prudential standards for U.S. banking organizations, it proposed creating four separate categories to reflect the risk profiles of the banking organizations.
Category I would be those banking organizations designated as U.S. global systemically important bank holding companies (GSIBs). These banking organizations are the largest and most internationally active U.S. banking organizations and they would remain subject to the most stringent prudential standards.
The other three categories are:
Category II: Bank holding companies with (1) $700 billion or more in average total consolidated assets or (2) $75 billion or more in average cross-jurisdictional activity and $100 billion or more in average total consolidated assets; and are not GSIBs.
Category III: Bank holding companies with (1) $250 billion or more in average total consolidated assets or (2) $100 billion or more in average total consolidated assets and at least $75 billion in average total nonbank assets, average weighted short-term wholesale funding; or average off-balance sheet exposure; and are not GSIBs or Category II banking organizations.
Category IV: Bank holding companies with average total consolidated assets of $100 billion or more that are not GSIBs or Category II or III banking organizations.
As the risk profile decreases, so would some of the prudential requirements, such as reducing stress testing and risk management requirements.
|The Prudential Standards Proposal
The non-U.S. bank prudential standards proposal also sets out four risk categories by assets for non-U.S. banks with U.S. banking operations. The purpose is to establish consistent prudential standards for both U.S. and non-U.S. banking organizations.
There are different ways of referring to the non-U.S. bank's assets: “total consolidated assets” (i.e., on a global basis), “U.S. assets” (which excludes the assets of the non-U.S. bank's direct offices in the U.S.), “combined U.S. assets” (which includes the assets of the non-U.S. bank's direct U.S. offices), and “U.S. nonbank assets” such as securities broker-dealers.
No change is being proposed to the current requirement that some non-U.S. banks with banking operations in the United States establish intermediate holding companies (IHCs) to hold most of the non-U.S. bank's U.S. assets except for its direct branches and agencies.
The risk categories under the non-U.S. bank prudential standards are somewhat similar to the U.S. banking organizations risk categories described above, but do draw certain distinctions.
There is no analogous Category I, which is reserved for U.S. GSIBs.
Category II non-U.S. bank prudential standards would apply to a U.S. IHC (and any depository institution subsidiary thereof) that has (1) $700 billion or more in average combined U.S. assets or (2) $75 billion or more in cross-jurisdictional activity and $100 billion or more in average combined U.S. assets, and is not a GSIB.
Category III non-U.S. bank prudential standards would apply to a U.S. IHC (and any depository institution subsidiary thereof) that is not a GSIB or subject to Category II standards and (1) has $250 billion or more in average combined U.S. assets or (2) $100 billion in average combined U.S. assets and $75 billion or more in any of the following indicators: nonbank assets, weighted short-term wholesale funding, or off-balance sheet.
Category IV non-U.S. bank prudential standards would apply to a U.S. IHC (and any depository institution subsidiary thereof) that has at least $100 billion in average combined U.S. assets and does not meet any of the thresholds specified for the other categories.
Similar to Category I for U.S. banking organizations, the Category II non-U.S. banks are the most global systemically important banks and thus would remain subject to stringent prudential standards.
Category III non-U.S. banks would have their annual company-run stress test requirement extended to every two years, and they would have the option to opt out of certain capital analyses.
Category IV banks would see both their FRB Comprehensive Capital and Analysis Review (CCAR) and their supervisory stress testing requirements reduced to a two-year cycle, and no requirements for company-run stress testing or maintenance of a supplementary leverage capital ratio.
|The Liquidity Management Proposal
In addition to proposing more risk-based prudential standards for non-U.S. banks with U.S. banking operations, the FRB, in conjunction with the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC, collectively, the “federal banking regulators”), issued a separate notice of proposed rulemaking regarding liquidity requirements for non-U.S. banks with U.S. banking organizations. The OCC and FDIC are included in the notice because it contains proposed changes to the liquidity requirements for U.S. banking organizations.
The proposal would place on certain IHCs of non-U.S. banks the liquidity requirements imposed on large U.S. banks – the liquidity cover ratio (“LCR”) for which final regulations were issued in 2014, and the net stable funding ratio (“NSFR”), for which regulations were proposed in 2016, but have not yet been finalized. The regulations are based on LCR and NSFR international banking standards promulgated by the Basel Committee of the Bank for International Settlements, which then must be adopted by individual countries.
Large U.S. banking organizations subject to the LCR rule must maintain an amount of high-quality liquid assets (HQLA) equal to or greater than their projected total net cash outflows (a defined term which would include outflow of retail deposits) over a projected 30-calendar-day period, on an ongoing basis.
Under the NSFR proposal, which is complementary to the LCR, large U.S. banking organizations would need to maintain on a daily basis a minimum level of stable funding relative to the liquidity of their assets, derivatives, and commitments, over a one-year period on an ongoing basis.
The proposal for non-U.S. banks also would take a risk-based approach to imposing LCR and NSFR requirements on the U.S. assets of non-U.S. banks, including the following:
Category II liquidity standards would apply to non-U.S. banks with (1) $700 billion or more in average combined U.S. assets, or (2) $75 billion or more in cross-jurisdictional activity or weighted short-term wholesale funding: Their IHCs (and any covered depository institution subsidiary of a non-U.S. banking organization subject to Category II liquidity standards) would be subject to the full daily LCR and NSFR requirements.
Category III liquidity standards for non-U.S. banks as defined above: their IHCs would be subject to the same LCR and NSFR requirements as Category II non-U.S. banks. If the combined U.S. assets included less than $75 billion in weighted short-term wholesale funding, their IHCs (and any covered depository institution subsidiary of a non-U.S. banking organization subject to Category III liquidity standards) would be subject to daily LCR and NSFR requirements at 70-85% of the full requirements.
Category IV liquidity standards for non-U.S. banks as defined above: if the weighted short-term wholesale funding assets are less than $50 billion, there would be no LCR or NSFR requirements; if the weighted short-term wholesale funding assets are equal to or greater than $50 billion, their IHCs would be subject to monthly LCR and NSFR requirements at 70-85% of the full requirements.
If assets must be held pursuant to the proposed LCR requirement, those assets would need to be held in the IHC to the extent that they are needed to meet the proposed requirement.
Current internal liquidity stress testing requirements would remain monthly, except for Category IV banks, which would be subject to them quarterly.
The proposal also raises the question of U.S. branches and agencies of non-U.S. banks being subject to liquidity requirements, but specific regulations are not being proposed at this time. While U.S. state-licensed and federal banking offices such as branches and agencies may have some liquidity requirements (which can be known by such names as asset pledge, asset maintenance or capital equivalency deposits), they are calculated differently from the proposed LCR/NSFR, meant for a different use and likely would be far less than the proposed LCR/NSFR requirements. The notice requests comment on whether LCR/NSFR requirements should be proposed for U.S. branches and agencies of non-U.S. banks, and if so, how they should be calculated.
|Conclusion
Non-U.S. banks should consider whether the proposed revised prudential standards actually would provide some relief for their U.S. operations in accordance with their risk profiles. In any comments on the proposals, they may want to note how the imposition of specific LCR/NSFR requirements will affect their U.S. operations and provide an estimate on how much it would cost to comply with them. These comments are public, so no confidential or proprietary business information should be included in any comment.
Between the two notices, over 100 questions are posed for commenters to focus on when submitting comments, although general comments may be submitted as well. The comments are due on or before June 21, 2019, although that date may be extended.
Kathleen A. Scott is senior counsel in the New York Office of Norton Rose Fulbright.
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