How Low Will Capital Requirements Go?

Capital requirements for banks are back in the spotlight—and headed for another round of recalibration. As Douglas Elliott, partner at Oliver Wyman and expert in financial regulation, puts it in a recent RMA Journal interview: “Capital is an important subset of a larger ideological division between the Democrats and Republicans.” The Biden administration proposed raising capital requirements under Basel III Endgame by nearly 19%. The current administration is moving the other way. 

More Than Just Basel 

Basel III Endgame—the proposed set of changes aimed at strengthening capital requirements for large banks—has dominated headlines. But Elliott believes it’s only part of the picture. “I think it’s going to turn out to be significantly less important than some other factors taken together,” he said 

What’s on the Table 

Here are a few of those other factors likely to influence capital requirements, according to Elliott: 

• eSLR Changes: The Fed has proposed reducing the enhanced supplementary leverage ratio (eSLR) by changing the formula to “3% plus half of an individual banking group’s GSIB surcharge.” This would cap the requirement at around 4.25%, down from the current 5% to 6%. 

• Excluding Treasurys: Banks may also be able to exclude Treasurys held for market making from leverage ratio calculations, a move meant to ensure the leverage ratio remains a backstop—not a “binding constraint on capital use.” 

• CCAR Stress Tests: The industry is suing the Fed over stress test transparency. Elliott expects a settlement, but says the process will likely push the Fed to “take away some of the conservatism they would otherwise have put in.” 

• GSIB Surcharge Methodology: The Fed may revisit the Method Two calculation used in the U.S., which Elliott notes is consistently “significantly higher” than Method One used globally. Switching could bring “a roughly 13% decline in total capital requirements for the largest banks.” 

So What’s the Range? 

Taking all these adjustments into account, Elliott predicts an overall reduction in capital requirements of “somewhere between 5% and … 15%.” Could it be even more? “It’s true that if you add everything up, you could get to a 30% or higher reduction,” he said. “But there’s no way that even the new team wants to go that far.”