Fed’s Tarullo Says Liquidity Rule to Promote Stability

Federal Reserve Governor Daniel Tarullo warned of persistent risks in wholesale funding markets while saying a rule proposed by the Fed requiring banks to hold minimum liquidity levels will help prevent fire sales of assets.

The proposed liquidity coverage ratio released by the Fed today is designed to mitigate “destabilizing dynamics by helping to ensure that major banking firms have a pool of high-quality liquid assets with which to address potential short-term net cash outflows,” Tarullo said in a statement.

During the 2008 financial crisis, short-term funding markets dried up for securitized mortgage pools, forcing banks to bring them back on their balance sheets. As mortgage defaults rose, even some banks and financial institutions had difficulty finding adequate financing for their assets.

The Federal Deposit Insurance Corp. ended up extending the federal safety net by offering temporary guarantees of newly issued senior unsecured debt issued by banks and thrifts to help them secure a stable source of funds.

Risks persist from non-deposit funding of assets in wholesale bank markets, and are among the “highest remaining priorities” of regulators, Tarullo said.

Fed Chairman Ben S. Bernanke said in a statement that today’s proposal would for the first time in the U.S. “put in place a quantitative liquidity requirement that would foster a more resilient and safer financial system in conjunction with other reforms.”

To contact the reporters on this story: Craig Torres in Washington at ctorres3@bloomberg.net; Michelle Jamrisko in Washington at mjamrisko@bloomberg.net

To contact the editor responsible for this story: Chris Wellisz at cwellisz@bloomberg.net

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