US regulators target reduction in leverage ratios for major banks

The US Federal Reserve, Federal Deposit Insurance Corp., and the Office of the Comptroller of the Currency are preparing to lower the enhanced Supplementary leverage ratio (eSLR) for the nation’s largest banks by up to 1.5 percentage points.

According to sources familiar with the matter, the proposed changes would cut the capital requirement for bank holding companies from the current 5% to a range of 3.5% to 4.5%. Subsidiary banks would also likely see their threshold lowered from 6% to match the same range.

This has resulted from worries that the capital requirement limited their ability to trade in the $29 trillion Treasuries market.

The rule applies to the biggest US banks, such as JPMorgan Chase & Co., Goldman Sachs Group Inc., and Morgan Stanley.

US regulators propose revisions on leverage ratios for the largest lenders

Fed Chairman Jerome Powell and other officials backed tweaks to the Supplementary leverage ratio standards to encourage banks’ role as intermediaries in the market. In February, he told the House Financial Services Committee members that he had long been somewhat concerned about the levels of liquidity in the Treasury market.

The proposal will seek to alter the overall ratio instead of excluding certain assets, such as Treasuries, as some analysts had expected.

Nonetheless, the people said it is likely to seek public comment on whether the agencies should exclude Treasuries from the calculation.

It is worth noting that these revisions are similar to changes from 2018, in which President Donald Trump’s regulators attempted to “tailor” the eSLR calculation that applied to US global systemically important banks. The individuals mentioned that the language of the proposal could still change.

The Fed said that it would meet on June 25 to carry out talks regarding the proposal. The other regulators had not yet made plans for the public to receive the enhanced version of the SLR.

Interestingly, investors started to pay closer attention to SLR standards in April after President Donald Trump’s tariffs irritated markets.

The industry has said the rule, which makes large lenders hold capital against their investment in Treasuries, crimps their ability to add to such securities in times of volatility since they are treated as being on par with far riskier assets.

The SLR’s reach into treasuries was put on hold during the Covid crisis and has since been restored.

Spokespeople for the Fed, FDIC, and OCC declined a request for comment.

Leverage ratios’ intense nature in the Treasury market sparks controversy 

Leverage ratios serve as a safety net for risk-based capital requirements, according to Michelle Bowman, the Fed’s vice chair for supervision, who spoke earlier this month. 

When leverage ratios are too strict, she said, they can contribute to imbalances in the market. To deter this effect, Treasury Secretary Scott Bessent cited estimates that relaxing the rule and a few basis points would reduce Treasury yields.

However, Jeremy Kress, a former Fed bank policy attorney who now teaches business law at the University of Michigan, said it was unclear whether easing the leverage ratio would cause banks to buy more Treasuries.

When regulators briefly omitted Treasuries from the leverage ratio in 2020, Kress said, most banks declined to use this option because it would have restricted their ability to pay dividends and repurchase shares. 

He added that such an increased balance sheet capacity because of an alteration in the leverage ratio would prompt banks to pay their shareholders rather than doing business with the Treasury market.

Graham Steele, a former Fed official and Biden-era Treasury employee, also weighed his opinion on the topic of discussion. Steele argued that better-targeted solutions are available to address issues in the Treasury market. 

He stated, “Sadly, the proposed deregulation won’t fix the problem; it will only weaken the financial system.” 

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