On March 19, the Fed, the OCC, and the FDIC issued and requested comment on three proposals to modernize the U.S. regulatory capital framework for banking organizations. As previously covered by InfoBytes, Fed Vice Chair for Supervision Michelle Bowman, in a March 12 speech, announced that the agencies planned to release these proposals to implement the final phase of Basel III in the United States.

The first proposal would replace the current dual-calculation framework for banks with at least $700 billion in assets (i.e., Category I and II banking organizations) with a single “expanded risk-based approach,” incorporating standardized methodologies for credit, equity, operational, market, and credit valuation adjustment (CVA) risk and eliminating the current advanced approaches that rely on banks’ internal models. The proposal would exempt client-facing derivative transactions from the CVA requirement, and all other banking organizations would have the option to adopt the expanded risk-based approach. The proposal would also replace the current value-at-risk-based market risk measure with an expected shortfall-based approach and introduce an explicit operational risk capital requirement.

The second proposal would revise the standardized approach for most banks for determining the risk-based capital treatment of certain exposure categories by introducing a loan-to-value-based framework for residential mortgage exposures and reducing risk weights for corporate and other exposures. Both the first and second proposals would remove the requirement to deduct mortgage servicing assets from regulatory capital, instead assigning a 250 percent risk weight, a change the agencies stated would help promote bank participation in mortgage businesses. In addition, the second proposal would require banks with total assets of $100 billion to $700 billion (i.e., Category III and IV banking organizations) to recognize most elements of “accumulated other comprehensive income” in regulatory capital, with a five-year phase-in period.

The third proposal, issued solely by the Fed, would revise the Global Systemically Important Bank (G-SIB) surcharge framework by applying a one-time downward adjustment to the “method 2 coefficients” by a factor of 1.2, indexing them annually to nominal U.S. GDP growth, recalibrating the short-term wholesale funding indicator’s weighting to 20 percent, shifting certain systemic indicator calculations from point-in-time to average values, and narrowing surcharge increments from 50 to 10 basis points.

The Fed estimated the cumulative impact of the proposals — including previously proposed stress testing changes (covered here) — would lower common equity tier 1 capital requirements by 4.8 percent for Category I and II institutions, 5.2 percent for Category III and IV institutions, and 7.8 percent for smaller banking organizations. Comments on all three proposals are due by June 18.