The Federal Reserve Board (FRB)’s latest proposal imposing additional capital requirements on the US’s globally systemically important banks (G-SIBs) would result in the banks holding significantly higher surcharge compared with their global peers.

In its December 2014 Regulatory brief titled: “G-SIB capital: A look to 2015”, the PwC report points out that the FRB’s latest G-SIB buffer proposal indicates the latest example of heightened regulatory expectations on US-SIBs, related to capital, liquidity, or risk management requirements.

Three times more CET1 requirements

According to the PwC report, the FRB’s December proposal implements the Basel Committee on Banking Supervision’s (BCBS) G-SIB capital surcharge framework that was finalized in 2011.The PwC report notes the FRB’s latest proposal might be finalized in 2015, mandating US G-SIBs to hold additional capital (Common Equity Tier 1 (CET1) as a percentage of Risk Weighted Assets (RWA)) equal to greater of the amount computed under two methods. The first method is in line with BCBS’s framework by computing the amount of extra capital to be held based on the G-SIB’s size, interconnectedness, cross-jurisdictional activity, substitutability, and complexity.

However, the PwC report points out that the second method introduced by the US proposal would result in significantly higher capital surcharge, i.e. between 1% and 4.5% as compared with the first method, under which G-SIBs are assigned surcharges of between 1% and 2.5%. The PwC report notes this surcharge would be combined and phased-in between 2016 and 2019 with the previously finalized capital conservation buffer and countercyclical capital buffer. As both the capital conservation buffer and countercyclical capital buffer individually require another 2.5% CET1 each when fully phased-in, the PwC report notes the cumulative effect could mean that by January 2019, some US-SIBs will be subject to a CET1 requirement of up to 14%, which is three times today’s required minimum.

As can be deduced from the following graph, the 14% CET1 requirement is composed of the current minimum CET1 (4.5%), the proposed G-SIB surcharge (up to 4.5%), and capital conservation and countercyclical buffer (together up to 5%).

G-SIB capital requirements as of 2019

Heightened regulatory expectations on US G-SIBs

The PwC report highlights that the enhanced CET1 requirement would create a costly cumulative hurdle for US G-SIBs that could impact bank lending and economic growth. The report notes the FRB’s G-SIB buffer proposal is only the latest illustration of heightened regulatory anticipation on US G-SIBs, related to capital, liquidity, or risk management requirements.

The PwC report points out that there are a number of US regulatory initiatives lined up in 2015, including the final single counterparty credit limits rule, implementation of BCBS’ recently finalized net stable funding ratio (NSFR), and implementation of the Financial Stability Board’s (FSB) Total Loss Absorbency Capacity (TLAC).

Considering these regulatory initiatives are contemplated in 2015, the PwC report points out that the FRB’s latest US G-SIB buffer proposal’s total impact hasn’t been publicly addressed nor is it fully ascertainable by market participants.

Taking a closer look at the FSB’s TLAC proposal, the PwC report notes the TLAC proposal essentially adds a requirement, on top of the current minimum CET1 of 4.5%, that an additional 11.5% to15.5% of capital be held in the form of Tier 1 and Tier 2 capital, and more importantly, in the form of long term unsecured debt (as a percentage of RWA). The PwC report notes the US G-SIBs may need to consider significant changes to their funding model if US regulators ultimately choose to implement TLAC at the higher end of the range.

ValueWalk has been tracking the developments on the Basel front through series of articles. For instance, last month, we highlighted how large banks have to start grappling with the Liquidity Coverage Ratio that in many ways are stricter than the guidelines set out by Basel III.