Federal Reserve Governor Daniel Tarullo proposed fine-tuning regulation for banks of all sizes, including excluding small firms from requirements under the Volcker rule.
“The aims of prudential regulation for traditional banking organizations should vary according to the size, scope, and range of activities of the organizations,” Tarullo said today in a speech to a Chicago Fed conference on banking. “By specifying these aims with more precision, we can shape both a more effective regulatory system and a more efficient one.”
The speech shows Tarullo is open to refinement of rules as the Fed and U.S. bank regulators implement the most sweeping rewrite of financial regulations since the 1930s. Tarullo said more specification of the rules to bank size and risk could relieve regulatory burdens and improve supervisory efficiency.
The Fed governor said it would be “worthwhile” to consider amended laws to explicitly exclude community banks with less than $10 billion in assets from the Volcker rule, which bans proprietary trading, and incentive compensation requirements ordered by the Dodd-Frank Act.
“Relieving both banks and supervisors of the need to focus on formal compliance with a range of regulations less relevant to community bank practice would free them to focus on the actual problems that may exist at smaller banks,” Tarullo said.
Financial stability rules “do not apply equally” to all mid-sized banks, he said. “Requirements such as resolution planning and the quite elaborate requirements of our supervisory stress testing process do not seem to me to be necessary for banks between $50 billion and $100 billion in assets.”
Finally, for the largest banks, Tarullo criticized as outdated Basel II guidelines that allow banks to use their own estimated risk parameters for calculating capital needs. The approach “contributes little to market understanding of large banks’ balance sheets, and thus fails to strengthen market discipline.”
The Fed has subjected the largest banks to annual stress tests to make sure loss-absorbing capital is at high levels, and has toughened liquidity and risk management standards. The tests “provide a much better risk-sensitive basis for setting minimum capital requirements.”
Answering an audience question, Tarullo said that stronger rules have “substantially reduced” the lower funding costs the largest banks enjoy from being perceived as too-big-to-fail.
Referring to insurance companies, he said the Fed understands “there is more stability” with their liabilities, which “calls for a different concept of capital regulation for those parts of those firms.”
Tarullo was Obama’s first appointment to the Fed and is now its longest-serving governor. He didn’t comment on monetary policy or the economy in the text of his remarks.