By Lisa M. Goolik, J.D.
At its July 20, 2015, open meeting, the Federal Reserve Board approved two actions under the authority of a law that turns five the same week - the Dodd-Frank Act. For starters, the Fed approved a final rule that imposes a capital surcharge on the largest, most systemically important U.S. bank holding companies pursuant to Section 165 of the Act. The Fed also voted to approve a final order establishing enhanced prudential standards for General Electric Capital Corporation (GECC) in accordance with Section 165.
Capital surcharge. Under the final rule, a firm that is identified as a global systemically important bank holding company, or GSIB, will have to hold additional capital to increase its resiliency in light of the greater threat it poses to the financial stability of the United States. The Fed’s rule uses five broad categories correlated with systemic importance—size, interconnectedness, cross-jurisdictional activity, substitutability, and complexity—to calculate a numerical score that would be used to determine whether a U.S. bank holding company would be identified as a GSIB. The final rule is based upon the international standard adopted by the Basel Committee on Banking Supervision and is augmented to address risks to U.S. financial stability.
According to the Fed, eight bank holding companies would be identified as GSIBs under the final rule: JPMorgan Chase & Co., Citigroup Inc., Bank of America Corp., Wells Fargo & Co., Goldman Sachs Group Inc., Morgan Stanley, Bank of New York Mellon Corp., and State Street Corp.
The capital surcharge will be phased in beginning on Jan. 1, 2016, and would become fully effective on Jan. 1, 2019. Using the most recent available data, surcharges for the eight GSIBs are estimated to range from 1.0 to 4.5 percent of each firm's total risk-weighted assets.
Commenting on the final rule, Fed Chair Janet Yellen stated, "A key purpose of the capital surcharge is to require the firms themselves to bear the costs that their failure would impose on others. In practice, this final rule will confront these firms with a choice: they must either hold substantially more capital, reducing the likelihood that they will fail, or else they must shrink their systemic footprint, reducing the harm that their failure would do to our financial system. Either outcome would enhance financial stability."
Enhanced standards. The Fed also approved enhanced prudential standards for GECC, which was designated by the Financial Stability Oversight Council in July 2013 for enhanced supervision. The Fed’s order takes into account General Electric’s plans to substantially reduce GECC's holdings by as much as 70 percent and retain only those business lines that support GE's core industrial businesses. As a result, the final order provides for application of enhanced prudential standards in two phases that begin Jan. 1, 2016, and Jan. 1, 2018.
Because of the “substantial similarity” of GECC's activities to that of a large bank holding company, the enhanced prudential standards are similar to those that apply to large bank holding companies, but are “tailored to reflect the unique characteristics of GECC.”
Effective Jan. 1, 2016, GECC must comply with risk-based and leverage capital requirements, the liquidity coverage ratio rule, and related reporting requirements. If GECC is still designated by the FSOC prior to Jan. 1, 2018, GECC would be required to comply with liquidity risk-management, general risk-management, capital-planning, and stress-testing requirements, as well as restrictions on intercompany transactions. Additionally, GECC would also be subject to certain governance requirements unique to its structure
Yellen noted, “Whether a firm we regulate is a bank or a nonbank, our goal is to tailor our regulation and supervision to the systemic footprint of the individual firm in a way that safeguards the stability of our financial system and our economy.”
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