Federal Reserve: Capital requirement reforms could pose “significant risks”

Reforms to capital standards could pose “significant financial stability risks” if policymakers fail to consider possible consequences, according to member of the Federal Reserve’s Board of Governors Michelle Bowman.

She warned policymakers after federal banking regulators released the proposed US Basel III reforms, including proposed higher capital standards for banks with over $100 billion in assets.

In her speech, Bowman warned that regulatory capital requirements could not replace sound risk management and supervision, and that the proposed rules could negatively impact the long-term viability of midsized and smaller banks.

She said: “Regulatory reform can pose significant financial stability risks, particularly if those changes to regulation fail to take sufficient account of the incentive effects and potential consequences.”

Bowman also emphasized that bank supervision could not rely solely on pinpointing compliance issues, failed processes or rule violations in order to support financial stability.

She said it must “go further” and examine banks' risk exposures while prioritizing core safety and soundness issues in the context of their financial condition.

Bowman also called for the rules to include supervision for bank management and their boards of directors, and highlighted the need for changes to supervisory activities to be open and transparent.

She added: “No regulatory or supervisory framework can be effective without accountability.”

The capital requirements in Basel III were also criticized by a coalition of financial service groups in July. The groups, including the American Bankers Association (ABA) and Bank Policy Institute, wrote a joint letter to the Federal Reserve warning that revising the capital rules would introduce “serious issues”.

The reforms also drew criticism from a number of industry bodies when they were opened for public comment.