If there were any remaining doubts that capital is king, the new banking legislation has laid them to rest.
Over the past five years, regulators have increasingly turned their sights to capital levels, blocking weaker players from expanding and paying out dividends.
Now Congress has brought this emphasis to a new level, forcing examiners to act sooner when banks full below specific capital thresholds.
* Competition for equity is likely to get even fiercer as an increasing number of banks seek to bolster capital ratios.
* The credit crunch could worsen in the short run, as banks become even more reluctant to expend capital on new loans.
* And troubled banks will have much less time to turn things around.
The bill, passed by Congress last month and expected to be signed by President Bush shortly, gives regulators a year after the bill is enacted to definefive categories for banks: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized.
Institutions in the first two categories will operate with few restrictions. But the noose gets tighter as banks fall into the other levels. Regulators can require those institutions to raise new capital, divest subsidiaries, curtail growth, and cancel stock dividends, for example. In extreme cases, they can limit executive pay, remove top management, call new elections for the board of directors, and seize institutions.
The supervisory agencies have to issue regulations to implement the law, and they will have some leeway in determining specific provisions. But the intent of the law is clear: Congress wants regulators to act faster against weak banks.
For example, the bill specifically calls on regulators to close most banks once they reach the lowest category -- those whose tangible equity is less than 2% of total assets.
Banks, seeking to avoid stifling regulation, are expected to aggressively try to raise capital in response to the bill.
"Our view is that 1992 is going to be a relatively good year for financing," said Jeffrey Peek, a managing director at Merrill Lynch & Co. Already, he said, "we see a steady drumbeat of preferred" stock offerings.
Undercapitalized banks whose securities are shunned by investors will feel the effects of the new legislation most acutely. They will be subjected to regulators' demands to stop growing - or even shrink - and stop paying stock dividends.
Spur to Mergers
The weakened institutions will be courted by stronger banks looking to deploy their stockpiles of capital. This will speed up the pace of acquisitions, experts say.
"It's clear when you get to the lower zones [of capital categories], your life is going to be miserable," said Lenny Mendonza, a consultant at McKinsey & Co. "This will accelerate the consolidation under way."
More Caution in Lending
Weaker banks will probably keep asset growth to a minimum to preserve capital - and could constrict the economy, according to Robert Litan, a fellow at the Brookings Institution. "In the short run, it may modestly worsen the credit crunch because it tells regulators to tighten up," he said.
And even over the long haul, the capital-based regulation will induce banks to be more conservative lenders, he said, because the penalty for capital-eroding loan losses is likely to be faster action by supervisors.
A number of regulators are less than ecstatic about the new standards. While they welcome the broader authority to act sooner against troubled banks, they also resent the fact that Congress has said so specifically how they must act.
"The agencies are going to have to write detailed regulations on things that used to be just business decisions of banks," one regulator complained. "Basically, the legislation turns banks into utilities" in terms of how they are regulated, she said.
By-the-book regulation figures to make it harder for banks to work themselves out of weak positions. Because the regulators have to be severe with ailing banks, they will have little chance to gradually improve an institution's profitability or rebuild its capital.
Take the case of BankAmerica Corp. Less than a decade ago, the San Francisco giant was on its knees, bleeding from sour loans and unable to maintain profitability in major businesses. Today it regularly taps the capital markets, generates strong returns for its shareholders, and is in the midst of swallowing a large rival.