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00:00Good morning John. The Federal Reserve is letting these supplementary leverage ratio exemption it granted to banks expire as planned on March 30 first. Now the banks who have over 250 billion in assets must hold 3 percent of their leverage exposure in Tier 1 capital which generally means equity. The biggest banks the G sibs the eight of those they have to hold 5 percent. The leverage assets are not risk weighted. They include treasuries and reserves held at the Fed. The rules put in place after the financial crisis to ensure banks would have enough capital to offset potential crisis losses. Now what happened during the crisis is the government issued billions in pandemic relief checks and the Treasury Department sold hundreds of billions in bonds to help pay for the relief efforts. Much of the proceeds then end up in banks as deposits which increase their exposure to the leverage ratio. And they would have to raise the capital that they held whether they wanted to or not. So last April the Fed exempted the Treasury holdings and reserves essentially cash from the requirements. The calculation because they were afraid that banks would pull back on lending because they didn't want to have to set aside more capital or they wouldn't have enough capital in other words be able to expand their balance sheet. Now Fed officials have told us this morning bank balance sheets are in good shape. They have more capital than exposure right now. And so therefore they think they can go back to the status quo before Coughlin. However reserves have grown so much much bigger than the Fed anticipated when they passed the exemption last year. They estimate banks have what they thought banks would have one point three trillion in reserves now. Instead they are three and a half trillion. So there is a question about whether the banks would stop taking deposits or stop buying as many treasuries. The fear is that would send cash into the money markets and that would affect repo rates and increase volatility. The Treasury is being the Fed rather is going to consider changes to the way the ratio is applied although they say they will not lower the levels because they figure with more reserves coming all the time the banks are still going to have this issue of expanding their balance sheets hanging over them for some time. So Mike let's turn to the price action briefly and then we'll follow up with a couple of questions. Yield is higher by a basis point or so on a 10 year. It was low on the session by wanted to come against this decision 172 on tens. The equity markets rolled over a little bit but then snapped back. And you've got to think about this in a clear head. You've got the psychological knee jerk reaction which we don't have much of one right now. And then just looking at where ratios are at the moment as I understand it banks have cushions over the SLR requirement even with or without this exemption Mike. So this whole conversation about banks needing to dump treasuries and all of this kind of talk whereas in practice it appears that over the last week or so thinking in the markets adjusted on that. Now banks sold off about 80 billion in treasuries over the last couple of weeks. Some people think because they were trying to prepare for this and others say that the banks because they had a larger cushion as it were they did not have to dump treasuries and would not affect the money markets as much as anticipated. But some of the people who had the biggest fears have switched their view in the last week thinking that they could get through this. The question is now going to be longer term what does it mean. Is there a contradiction here in the approach at the Fed what they're doing with monetary policy and what they're doing with regulation simultaneously Mike. Well there could have been because what might have happened in the rebate market is rates might have gone up if a lot of cash went into the money markets. That would push down prices for repo and raise rates and that would raise rates in the lower end and perhaps push up the Fed's rate. And so the Fed didn't want that to happen. But essentially they put in place a precautionary measure a year ago and now they've decided they don't need it any longer. It could be a problem down the road. So they're going to look at what might need to be done. But at the moment they think the markets can survive this. And rates won't rise.

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Fed Will Let Significant Capital Break for Big Banks Expire

The Federal Reserve will let a significant capital break for big banks expire at month’s end. Lenders were being allowed to load up on Treasuries and deposits without setting aside capital to protect against losses. Mike McKee explains on "Bloomberg The Open." (Source: Bloomberg)

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