Chief Basel skeptic 'cautiously optimistic' about reaching a compromise

Zach Gibson/Bloomberg

One of the Basel III endgame's biggest skeptics is "cautiously optimistic" that regulators will make what she sees as necessary changes to the proposed large bank capital framework.

Federal Reserve Board Gov. Michelle Bowman, in prepared remarks delivered Wednesday morning at a virtual event sponsored by the U.S. Chamber of Commerce, emphasized her reservations about the jointly proposed reforms, but said a compromise on a more palatable offering is still within reach.. 

"As I consider next steps, I am cautiously optimistic that policymakers can work toward a reasonable compromise, one that addresses two of the most critical shortcomings of the proposal: Over-calibration and the lack of regulatory tailoring," Bowman said. "Public feedback has also assisted in identifying the aspects of the proposal that result in the most severe unintended consequences. In my mind, it will be necessary for policymakers to modify the proposal to mitigate these issues and concerns as we move forward."

Bowman has been the leading voice of internal dissent against the proposal, which would amend risk capital weights applied to all banks with at least $100 billion of assets. Since the Fed, Federal Deposit Insurance Corp. and Office of the Comptroller of the Currency put the rule forward for public comment in July, she has delivered numerous of speeches detailing her concerns with the package. 

Her latest remarks came just one day after the close of the comment period, which drew in scores of submissions, most of which raised problems with the new capital rules. 

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During a question and answer session following her speech, Bowman noted that regulators have "a lot of work ahead of us" to sift through the various comments and will factor those into any changes made to the proposed rule before it is finalized. 

"One of the important parts of the proposal and the comment period is understanding more about the indirect costs," she said. "I think it's most effective to understand directly from the financial institutions that are subject to the rule so that they will be the ones making decisions about product costs and availability. … We have an obligation as policymakers to understand and assess the true cost of reform."

Bowman argued that the rule as currently structured cuts against the stated goal of creating more uniform standards for regulating banks globally. She pointed to the Bank of England's counterpart proposal, which would only increase the aggregate capital held by the UK's largest banks by 3.2%, rather than the cumulative hike of 16% impacted U.S. banks stand to face. 

She also highlighted industry concerns about the framework, noting operational risk requirements could be excessively burdensome on banks that rely on fee-based income more rather than lending.

"Diversification in revenue streams can enhance the stability and resilience of a financial institution, and excessive capital charges for these revenue-generating activities could create incentives for banks to roll back the progress they have made to diversify revenues," she said. "Basel capital reforms should not penalize non-interest and fee-based income through the proposed operational risk requirements."

Bowman also flagged the treatment of market risks as an area that "warrants attention," arguing that the proposed framework could result in higher hedging prices for farmers, manufacturers and other commodity price-sensitive businesses.

Tuesday also marked the end of the data collection period for the Fed's quantitative impact study on the potential effects of the proposed capital rules on large banks. Last week, Fed Vice Chair for Supervision Michael Barr said the central bank's analysis of this information would be made available for public comment, adding that feedback would be incorporated into the final rule.

Bowman said the information gleaned from the study would be "very instructive" as she and her fellow board members try to better assess the impact of their rule changes.

Unlike Gov. Christopher Waller, who joined her in voting against issuing the Basel III endgame proposal over the summer, Bowman stopped short of calling for the rule to be withdrawn and reproposed. But, she argued, the rule as currently configured would do more harm than good.

"Based on the information available, increasing capital requirements as initially proposed could result in significant harm to the U.S. economy through the impact on U.S. businesses, while failing to achieve the intended goals of improving safety and soundness and promoting financial stability," she said.