New bill would end Basel III and hike bank capital requirements to 10%. Read the draft here

April 5, 2013
April 5, 2013

Senate staff are reviewing a draft of banking legislation that would raise equity funding requirements for financial institutions, pull the United States out of the Basel III accord, and further restrict the Federal Reserve’s ability to bail out the shadow banking sector.

The draft, which you can read below, was prepared by the staff of Democratic senator Sherrod Brown, who is expected to be joined by Republican senator David Vitter in endorsing a final version of the legislation later in April. The two legislators co-sponsored a symbolic amendment calling on the government to end subsidies to the largest banks; it passed the Senate 99-0.

But the two senators promised a full package, and now we have a look at the first draft, shared anonymously with Quartz by staff from a third legislator’s office. A spokesperson for Brown said that it would be premature to comment on draft legislation, while Vitter’s office has not yet returned calls for comment.

The draft calls for bank regulators to look to the 19th century—before the Federal Reserve, deposit insurance and the income tax—when setting capital equity levels, and seems to rule out risk-weighting as a way to dilute the rules. By that standard, none of America’s largest banks would have reached the bill’s proposed minimum capital requirement of 10% in the second quarter of last year (pdf). And that’s not even counting the additional 5% capital surcharge on banks with more than $400 billion in assets.

Bank capital has been a touchstone of the post-crisis regulatory debate, with advocates of safer banking demanding a larger cushion of safety to counteract subsidies, while financial institutions warn that raising more money from investors, rather than borrowing (for instance, from depositors), will make their loans more expensive.

More broadly, the bill would end US implementation of the Basel III accord, which is also intended to raise capital for banks, but is mistrusted by many financial reform advocates who think banks will find its standards easy to manipulate. If the US doesn’t participate in Basel III, however, it would be a blow to efforts to coordinate global financial regulation.

The Brown-Vitter legislation would make it a violation of the rules surrounding federal deposit insurance to try to financially engineer away the capital requirements. It would also limit the Fed’s ability to bail out non-bank financial institutions, a key complaint from the crisis in 2008.

While the draft legislation has a long way to go before it becomes law, it is symbolic of a mini-boom of interest on the left and right in further reining in banks. This has been motivated by the JP Morgan “whale” scandal, failures in Cyprus, and continued political pressure to improve a struggling economy.

While the appetite for reform may exist in Congress—Brown has suggested this bill may attract 50 or 60 votes—the Obama White House is reluctant to tackle the bill while the new rules created just three years ago by the Dodd-Frank financial overhaul are still being implemented. A former Treasury official warns that opening up financial reform could become a field day for financial sector lobbyists seeking to attack other parts of the bill, including the new consumer protection agency. But reformers tend to say the process is taking too long, and that waiting for safer banks is too risky for the economy.

Here is the text of the draft legislation:

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