WASHINGTON — The top Democrat on the Senate Banking Committee is calling on the Federal Reserve to increase the countercyclical capital buffer in order to quell systemic risk in the financial system.
In a letter to the Federal Reserve Board of Governors, Sen. Sherrod Brown of Ohio said the current optimism in the financial system could lead to another financial crisis.
“Financial crises are caused by excessive optimism on the part of bankers and their watchdogs when times are good,” Brown said. “In light of the current market conditions and emerging risks that are indicators of increasing systemic vulnerabilities, the Board should use all of its prudential authorities, including the CCyB, to strengthen the resiliency of our financial system and protect working families from the next economic downturn.”
Brown said the countercyclical capital buffer is an “invaluable mechanism” to address risks to the financial system before an economic crisis ensues, designed to require banks to increase capital during economic expansions so they are better positioned to provide credit and liquidity during economic contractions.
Brown, who is considering a run for president, said Fed researchers noted that banking supervisors have spotted weaknesses in risk management of the leveraged loan market, as well as elevated asset valuations and borrowing among highly levered and lower-rated businesses in the private nonfinancial sector. He cited a Moody’s Investors Service report that said a combination of weak lending practices and increased lending to lower-quality corporate borrowers is creating credit risks and could lead to more defaults and lower recoveries.
“At a time when the largest banks in the U.S. are reporting record profits — more than $100 billion in annual profits — now is precisely the time to require additional capital buffers that large banks could draw upon to mitigate a large adverse financial shock,” Brown said.
Brown’s letter is in part a response to comments after a hearing last year with Fed Vice Chair of Supervision Randal Quarles, who argued against the use of the countercyclical capital buffer given strength in the financial system.
“The financial system is substantially stronger than at similar points in previous cycles. … I believe that the financial system is quite resilient, with the institutions at the core of the system well capitalized and less risky,” Quarles said.
