WASHINGTON — Federal Deposit Insurance Corp. Vice Chairman Thomas Hoenig on Wednesday suggested a new measure to grant regulatory relief for banks, one based on activity rather than asset size.

While current relief proposals typically focus on a $10 billion asset threshold, Hoenig proposed granting extensive breaks for institutions without trading assets or liabilities, capping the notional value derivative exposure at $3 billion and limiting the types of derivative positions banks can hold. Such a move would exempt the vast majority of banks, roughly 94% of the more than 6,500 institutions, Hoenig said during a speech before a Levy Economics Institute conference.

After the speech, Hoenig said using asset thresholds was too "arbitrary."

"As soon as you pick another number, there will be pressure to move forward again," Hoenig said.

He that under his proposal, none of the banks over $100 billion in total assets would meet the criteria for regulatory relief. Of the 4,000 banks with less than $250 million in total assets, only 90 would not qualify.

Hoenig also said a 10% equity-to-assets ratio using generally accepted accounting principles could be a fourth qualification for reg relief, but such a requirement might not be supported by small banks.

"The first three, almost all the community banks meet that criteria - the fourth - more than well over half do, but not 90%, so they are going to resist that," Hoenig told reporters during a scrum after his speech.

Hoenig's proposal was notable too for the amount of relief he was willing to grant. He said banks that met his criteria should be exempted from Basel capital standards, certain call report requirements, some elements of consumer compliance and appraisal requirements. He added that such firms should be subject to exams every 18 months as opposed to the current annual cycle for most institutions.

But Hoenig drew a line in the sand over another regulation which he said these institutions should not be exempted from: the Volcker Rule, which prohibits proprietary trading and bank investment in hedge and equity funds.

"The reality is that the vast majority of community banks have virtually no compliance burden associated with implementing the Volcker Rule," Hoenig said. "Not only do these banks not have proprietary trading operations, but they generally have no trading positions of any kind."

Hoenig's reasoning goes back to derivatives. Under his proposal, only firms that hold no derivative positions other than interest rate swaps and foreign exchange derivatives — and whose total notional value of such exposures is less than $3 billion — would be eligible for regulatory relief.

The Volcker Rule "represents a modest step toward limiting insured banks from proprietary trading in derivatives, thus moderating the incentives for speculation with subsidized funding from the FDIC and the Federal Reserve using insured deposits and ready access to central bank liquidity," Hoenig said.

Hoenig said that the existing guidance already makes clear that banks with less than $10 billion of assets are exempt from Volcker Rule compliance if they do not engage in covered activities. That is most community banks, Hoenig said.

"For community banks which are receiving conflicting information from consultants, regulators should clarify or expand the current guidance to eliminate the confusion," Hoenig added.

As for other institutions that do engage in covered activities, "they should also have the expertise to comply with Volcker Rule," Hoenig said.

Hoenig's proposal could find an audience on Capitol Hill, where lawmakers are currently working on a reg relief bill. Senate Banking Committee Chairman Richard Shelby is still negotiating with Sen. Sherrod Brown, the top panel Democrat, to see if a bipartisan agreement can be reached.

Community bank advocates welcomed the remarks.

"We thought that he went further than I have heard from other regulators on the subject of what community banks should receive in the form of reg relief, so we thought that was encouraging," said Chris Cole, executive vice president and senior regulatory counsel at the Independent Community Bankers of America.

However, Cole said Hoenig's activity-based framework may be too difficult to administer and that basing regulation relief on asset size makes more sense.

"Thresholds would be a lot simpler," Cole said, adding that "banks would be coming in and out of those situations where they qualify or didn't qualify."

But Wayne Abernathy, executive vice president of the American Bankers Association, disagreed.

"Sometimes this tailoring is based on the least relevant factor, which is size," he said. "The real thing that ought to be a focus of regulation by policy makers is risk."

Cole and Abernathy agreed, however, that community banks should be exempt from the Volcker Rule.

"The problem with what he is saying is that if you apply the Volcker Rule to community banks, they still need to understand it, know it, read it, and the rule is so complicated that that in itself is reg burden," Cole said.

But he agreed with Hoenig about his suggestions regarding call report reform, an exemption from Basel III requirements and a longer exam schedule.

During the speech, Hoenig pointed to data that showed banks that met his criteria "have a lower rate of failing or requiring government assistance."

"Given that activities of the more traditional banks pose less risk to the public, I suggest that meaningful regulatory relief for traditional banks — those that meet the criteria above — can be provided in a manner that is entirely consistent with safety and soundness," he said.

Responding to a question later, Hoenig boiled his message down further:

"Simplify the institution, simplify the regulation," he said.

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