WASHINGTON – Momentum is gaining in Washington for a regulatory plan that would force large, systemically risky banks to issue "contingent capital," a new type of instrument that allows institutions to quickly convert debt to equity under stressful circumstances.
Federal Reserve Board Chairman Ben Bernanke became the latest policymaker to discuss such a plan at a hearing last week in a sign the idea, which was considered radical as recently as last year, has become increasingly mainstream, analysts noted.
In theory, such a debt instrument would allow a bank to quickly raise capital if a crisis occurs, lowering the risk that the government would have to bail it out. During the hearing, Bernanke said regulators are still working on capital standards that would be "calibrated to the systemic importance of the firm."
Bernanke explained, "Options under consideration in this area include requiring systemically important institutions to hold aggregate levels of capital above current regulatory norms or to maintain a greater share of capital in the form of common equity or instruments with similar loss-absorbing attributes, such as 'contingent' capital that converts to common equity when necessary to mitigate systemic risk."
Treasury Secretary Tim Geithner also has recently floated the idea.
