WASHINGTON — Federal Reserve Bank of New York President William Dudley said Friday a surcharge on the world’s most important firms is necessary to avoid any potential future failures.
Firms both here and abroad have argued forcibly against the surcharge planned by regulators, saying it will bring with it a host of disadvantages. JPMorgan Chase President and Chairman Jamie Dimon recently made waves by calling the surcharge “anti-American” in an interview with the Financial Times, suggesting it might be time to abandon the so-called Basel III agreement.
While acknowledging issues with which institutions to charge, however, Dudley insisted the added capital requirement made sense.
“I appreciate that it is impossible to calibrate 'SIFIness’ precisely, but this is not a valid argument for no surcharge,” said Dudley in a speech at a conference hosted by the International Council Meeting of the Bretton Woods Committee, referring to the acronym for systemically important financial institutions.
Rather, Dudley stressed the importance of firms to hold greater capital to curb systemic risk. Institutions whose failures could precipitate a shock to the financial system should be required to hold higher capital to reduce such a possibility, he said.
Already, the U.S. has taken significant steps to bolster the resilience of its banking institutions by increasing its capital.
"The major U.S. banking institutions are much better capitalized today then they were in the fall of 2008," said Dudley.
International regulators proposed last year to force all institutions to hold at least 7% common equity by 2019, while saying the largest banks should hold even more. They proposed in June a surcharge of 1% to 2.5% for 28 global-SIFIs, but did not specify which banks fell into that camp or what each institution would pay.
Dudley noted that work remains to be done, particularly when it comes to liquidity and cross-border coordination.
He said regulatory oversight cannot be limited to each nation on a stand-alone basis. Instead, with more firms operating on a global basis, effective reform requires consistent global standards — an effort that has not gone far enough.
"While international cooperation to data has been good on many fronts, progress is uneven, and the devil is in the details of implementation," said Dudley. "We need all national authorities to resist the temptation to favor domestic financial interest of achieving a true level playing field globally."
Similarly, he said a major challenge ahead for regulators is how they will implement resolution procedures on a cross-border basis. Already, U.S. regulators have finalized so-called living will rules that would be used to resolve a large firm in the event of a financial crisis. However that effort has lagged so far among other global counterparts.
"The legal rules and regulatory regimes differ across legal jurisdictions," said Dudley. "So when a multinational banking organization becomes insolvent, each subsidiary and affiliate must be resolved in multiple bankruptcy proceeding, with the prospect of inconsistent treatment and larger than necessary losses in aggregate."
Despite efforts on the part of the Financial Stability Board to address the issues, there have been significant legal impediments to progress, Dudley noted, arguing it was one more reason to force banks to hold more capital.
"The difficulty in implementing an efficient cross-border resolution is one of the reasons why the largest globally active firms are being asked to hold additional capital," said Dudley.
Dudley also raised another key issue being hammered out between the U.S. and the Basel Committee on Banking Supervision: the creation of liquidity standards.
"Progress on the liquidity front has not progressed as far as desired," said Dudley, speaking of work here in the U.S.
Many banks, he said, are still dependent on short-term funding to finance longer-term assets from counterparties that tend to flee at the first signs of distress. One such example is money market mutual funds, which the Securities and Exchange Commission is currently examining.
Additionally, a global liquidity requirement, which is a source of concern among those in the industry, is still under review as part of Basel III to ensure no unintended consequences.
Offering some assurance, Dudley said there would be some changes, potentially.
"It will be implemented but in a somewhat altered form, since that proposal is not locked down to the same degree as the capital standards."
