Scrap the gold plate: Mnuchin goes global on bank rules

Treasury converges to international standards, but leverage ratio exception may delay Basel deal

  • US Treasury secretary Steven Mnuchin has issued a 147-page report on prudential regulation as part of a review ordered by President Donald Trump.
  • The Treasury is proposing bringing US bank regulations, including capital and liquidity rules, capital buffers for systemic banks and total loss-absorbing capacity, into line with international standards.
  • This would end the practice since 2009 of US prudential regulators gold-plating global standards.
  • The report proposes easing the treatment of foreign bank subsidiaries in the US, provided there is equivalent regulation in, and good co-operation with, their home jurisdictions.
  • Bankers claim the Treasury’s proposed delay to the implementation of new market risk rules and the net stable funding ratio is to allow time for recalibration, and not a sign the US will stall on implementation altogether.
  • The proposed exemption of US Treasury bonds from the leverage ratio represents a major departure from international standards, which could cause difficulties in the final round of Basel negotiations.

Prudential regulation of US banks looks set to converge to existing global standards following the unveiling of a 147-page review by US Treasury secretary Steven Mnuchin on Monday, which will largely end the country’s practice of gold-plating rules agreed at international level.

One big exception is the significant weakening of the leverage ratio beyond international standards, which could make it harder to achieve a long-awaited agreement on the final Basel III package being targeted at this week’s meeting in Sweden of the Basel Committee on Banking Supervision.

Several sources now believe the package will not be signed off until after Germany’s federal elections on September 24, potentially even postponing this month’s planned retirement of committee chairman Stefan Ingves.

“This move by the US Treasury was certainly not helpful in striking a deal during the ongoing Basel discussions,” says Markus Ferber, deputy chairman of the European Parliament’s economic and monetary affairs committee, in an email to

One European industry source says the timing of the US Treasury review might be coincidental – way back in February, President Donald Trump set a deadline of June 3 to compile the report. Nonetheless, the source adds: “When you are trying to agree on an international standard, this is not conducive to striking an agreement.”

The biggest source of discord in the Treasury recommendation is likely to be its call to exempt US Treasury bond exposures from the leverage ratio for US banks. As reported on June 14, traders believe this would have significant benefits for US repo markets. Although one source says the idea has been actively discussed in Europe since 2013, ultimately neither the final Basel standard nor draft changes to European Union rules – the second Capital Requirements Regulation (CRR II) – contain such an exemption.

Markus Ferber
Markus Ferber

“I deem those US Treasury recommendations to be quite problematic, but not really surprising. Traditionally, the US has always had a very selective approach when implementing internationally agreed standards, mostly focusing on those parts that are beneficial for their own institutions,” says Ferber.

The European industry source says the impact of the proposed US Treasuries exemption on the competitive position of European banks will depend on their exact levels of capitalisation and business mix.

The European Union is still waiting for Basel to agree a methodology for the leverage ratio buffer to be applied to global systemically important banks (G-Sibs).

A letter sent by Ingves to committee members on May 19, a copy of which has been seen by, mentions a buffer set simply at half the risk-based buffer. For European G-Sibs, this would mean a maximum of 1% on top of the existing 3% leverage ratio.

According to Monsur Hussain, head of financial institutions regulatory research at Fitch Ratings, all European G-Sibs would be above the implied leverage ratio buffer requirement (based on the existing leverage exposure measure), although a few – including Deutsche Bank – would be relatively close to the threshold. Banks will have until 2021 to adhere to the new buffer.

The competitive issue – that you couldn’t compete in the same conditions in the US repo market – depends on whether the level of the leverage ratio is binding for your bank or not
European industry source

“The competitive issue – that you couldn’t compete in the same conditions in the US repo market – depends on whether the level of the leverage ratio is binding for your bank or not,” says the European industry source. “You should conduct the analysis with two perspectives: one on the leverage with no US Treasuries and another one as it is today with US Treasuries in. If the result is different, obviously it hits. That is something that needs to be done on an individual basis. Overall, it is not good news, but you need to run the numbers to understand if there is going to be an impact or not.”

However, he agrees that proposing such a major change to the ratio threatens the fragile consensus on the final Basel package and could reopen the debate about the leverage exposure measure.

“If they open the door to that, anything can happen. The leverage ratio is hitting some assets in Europe that are supposed to be on a very low risk weight, if any – trade finance, for instance. [The Treasury policy] could serve as a precedent to exclude other assets like trade finance,” he says.

Much of the Mnuchin report should not stir international controversy though, because it would bring the US into closer alignment with current or prospective Basel standards and improve the treatment of foreign banks operating in the US.

Rule by rule, and point by point, the report pares back financial regulation for US banks – cutting the capital surcharge for G-Sib banks, softening liquidity reporting, removing initial margin from the leverage exposure measure – but stops at the line drawn by either European or international standards.

Even the report’s call for regulators to reassess the impact of the net stable funding ratio (NSFR) and Fundamental Review of the Trading Book (FRTB) – respectively, the second of Basel III’s liquidity ratios and the committee’s new market risk capital framework – is seen by observers as an honest review, rather than a sign the rules will be axed.

There are seven major areas where US rules would be equalised with the relevant international standards – each point is analysed below. One remaining question is how likely US regulatory agencies are to agree (see box: Could the FDIC block change?)

Margin deduction

Mnuchin recommends allowing banks to deduct client initial margin from the leverage ratio exposure – something European legislators had already decided to adopt in November 2016.

US prudential regulators, and especially the Federal Deposit Insurance Corporation (FDIC), have been obstructing an agreement on this at the Basel Committee. In a letter seen by, sent by Basel Committee chairman Stefan Ingves to governors and heads of supervision on May 19, he indicated only that the committee would “review the impact of the leverage ratio on client clearing”. The Mnuchin report suggests this dispute can now be resolved quickly at Basel.

In addition, the Treasury review advocates deducting reserves held at the central bank from leverage ratio exposures. This was originally suggested by the Bank of England last year to facilitate monetary easing in stressed conditions. The Ingves letter makes clear the Basel Committee as a whole has now agreed to allow national regulators to apply this deduction on a temporary basis “in exceptional macroeconomic circumstances”.

“What will be interesting is the details of the recalibration of the leverage ratio to offset the impact [of exempting central bank reserves]. It is not the intention of the regulatory authorities to look at the leverage ratio on a granular desk or product level; they prefer banks to look at it from the consolidated level, but it is likely to affect decisions at the product level,” says Fitch’s Hussain.

Daily LCR for G-Sibs only

The Treasury also proposes applying the US liquidity coverage ratio (LCR) only to global systemically important banks (G-Sibs). Other internationally active banks will need to comply with a so-called ‘modified’ LCR, which largely mirrors the final Basel standards.

Currently, the more stringent US standard requires daily reporting, and banks must be able to withstand the peak mismatch in liquidity inflows and outflows over the rolling 30-day period. By contrast, Basel requires banks to report their LCR monthly, based on the total liquidity outflows across the month, as does the modified US LCR.

Resolution resources

The report criticises the additional capital and liquidity requirements designed to ensure adequate liquidity in a resolution scenario, known as resolution liquidity adequacy and positioning (Rlap) and resolution liquidity execution need (Rlen). These have to be included in banks’ living wills, which set out their resolution plans. The report states: “Requirements to pre-fund a bankruptcy filing via Rlen and Rlap standards should be calibrated in a way that does not unnecessarily trap capital and liquidity in subsidiaries.”

“Rlap and Rlen have been imposed through the living will process, and create a new, potentially binding constraint even higher than the US gold-plated standards, which themselves are higher than the Basel standards; platinum-plated might be the term,” says Michael Krimminger, a partner at law firm Cleary Gottlieb and former general counsel of the FDIC.

G-Sib surcharges

The report calls on regulators to recalibrate the US risk-based capital buffer applied to G-Sibs, which it estimates at double the capital surcharge buckets set by the Financial Stability Board (FSB) as international standards. In particular, the report urges a review of an indicator focused on short-term wholesale funding reliance, which is an input to calculate the US buffer, but is not in the current FSB methodology.

Too tough TLAC

Another area where the US looks set to ease gold-plating is in its application of the FSB standards for total loss-absorbing capacity (TLAC) – the mix of equity and bail-in debt that banks must hold to reduce the risk of a taxpayer bailout being required during a resolution process.

The final US standards, produced in December 2016, included a minimum long-term debt ratio that specified exactly how much TLAC must be held in the form of long-term debt without acceleration clauses, expressed as ratios of both risk-weighted assets and the leverage ratio exposure measure. This is much more restrictive than the FSB’s broad recommendation that at least 33% of TLAC should be held in the form of long-term bail-in debt. The Mnuchin report calls for the minimum debt rule to be “re-evaluated”.

Oliver Ireland

“They have looked at the issues and they say we need to recalibrate TLAC. What does that mean in terms of the numbers? They don’t say, and I actually think this is a good thing. There is not a false precision in this report. They have identified issues with the capital structure for G-Sibs that they need to address – TLAC, the supplementary leverage ratio, the G-Sib surcharge – all of which work together, so they are not trying to solve them in isolation,” says Oliver Ireland, a partner at law firm Morrison & Foerster and former Federal Reserve legal counsel.

The US standards also originally specified the level of internal TLAC for foreign banking organisations (FBOs) that must be held locally so the unit can be bailed in without complete dependence on the parent. The internal TLAC requirement was set at 90% of what the FBO’s stand-alone TLAC requirement would be – the very top of the FSB’s 75–90% recommended range. Moreover, this requirement could only be fulfilled with TLAC issued back to the parent bank, not on the local market – again, a tougher rule than the FSB standard.

The size of the US TLAC buffers for FBOs was justified partly as protection to ensure local market participants did not fear a breach of the TLAC bail-in threshold and therefore shut the foreign bank out of the dollar market, says a regulatory expert at one non-US G-Sib. But this seems to contradict the rule that the internal TLAC can only be issued to the parent, not the wider market.

“The parent clearly isn’t going to suddenly say, ‘I’m not too sure if my subsidiary is a viable counterparty, so we won’t buy their debt’. Those buffers don’t make any sense for banks like us that have internal TLAC only being sold to the parent. That, to us, would be a sensible place to recalibrate those rules in terms of the overall metrics,” says the expert.

Foreign bank flexibility

The Treasury report encourages prudential regulators to re-examine the internal TLAC rules as part of a general overhaul of the approach to foreign intermediate holding companies (IHCs) in the US – a structure required by a 2012 rule to make foreign banks easier to regulate and mitigate the risk of a liquidity or capital gap at US entities. The rules provoked outrage from non-US banks, but the Treasury proposals now call for “greater emphasis” on “the degree to which home-country regulations are comparable to the regulations applied to similar US bank holding companies.” They also advocate basing supervision on the size of the IHC’s US footprint, rather than the parent’s global footprint.

That could mean removing four European bank IHCs – Barclays, Credit Suisse, Deutsche Bank and UBS – from the jurisdiction of the Federal Reserve’s Large Institution Supervision Co-ordinating Committee (LISCC). The committee has required the four banks adhere to similar standards on capital, liquidity and resolution planning as US G-Sibs, even though the local footprint of the foreign banks is much smaller.

Mike Krimminger

“It will be interesting how that gets developed in actual implementation, because you’d want to ensure the home-country plan for US systemic stability purposes provides for steps to be taken by the home-country regulator or central bank, or the home-country bank itself, to mitigate additional risk in the US. So there is always going to be a little bit of an institution-by-institution analysis to really make sure you consider how much confidence you have in the reaction of the foreign banking organisation and regulator,” says Cleary Gottlieb’s Krimminger.

Several sources see the softening of the treatment for IHCs as an attempt to mollify European authorities. In its draft of CRR II in November 2016, the European Commission proposed that large foreign banks operating in more than one European Union country should create an intermediate parent undertaking (IPU), similar to the IHC, but potentially more draconian.

“There is no question in most people’s minds that the European IHC standards were effectively a poke in the eye of the US for having imposed the IHC standards first. It would be nice to think the Europeans would view [the Mnuchin report] as being a positive response to some of the concerns they expressed in the past about IHC standards in the US,” says Krimminger.


The US prudential regulators have published draft rules to implement the Basel standards on the net stable funding ratio (NSFR) and have not yet produced a draft of the US version of the Fundamental Review of the Trading Book (FRTB). The European Commission (EC) published a first draft of both rules in the CRR II text in November 2016.

The Treasury report now recommends “delaying the domestic implementation of the NSFR and FRTB rules until they can be appropriately calibrated and assessed”.

The report adds: “Both of these standards represent additional regulatory burden, and would introduce potentially unnecessary capital and liquidity requirements on top of existing capital and liquidity requirements.”

Despite the negative tone of this comment, two regulatory experts at US banks believe the Treasury still intends the NSFR and FRTB to be implemented in full, after further discussions at Basel. They point to the report’s assertion that “Treasury generally supports efforts to finalise remaining elements of the international reforms at the Basel Committee”.

The Basel Committee is still discussing several key components of the new market risk rules, including backtesting standards for internal models. Moreover, the CRR II draft contains significant alterations to the Basel version of FRTB, along with a major change to the treatment of derivatives liabilities and repo transactions in the NSFR. The Treasury may be referring to the European Union NSFR changes in a recommendation to regulators to improve “risk sensitivity in the measurement of derivatives and securities-lending exposures” in US rule-making.

“There is still work happening at the Basel level, both on NSFR and FRTB, looking at some potential tweaks. I think the Treasury is looking at those, and where those changes have been made in the EU proposal and whether [it would] also be of benefit to calibrate [the rules] for the US market,” says the regulatory expert at the non-US G-Sib.

The question is how the US regulator wants to obtain the data to do this in a realistic way beyond the results of several completed and ongoing quantitative impact studies by the Basel Committee
Thomas Obitz, RiskTransform

However, Thomas Obitz, founder and FRTB expert at risk consultancy RiskTransform, is unsure how far the delay will allow US regulators to refine the calibration of the market risk rules.

“The idea of stepping back and recalibrating FRTB is understandable and necessary, given the capital increase expected. But the question is how the US regulator wants to obtain the data to do this in a realistic way beyond the results of several completed and ongoing quantitative impact studies by the Basel Committee,” says Obitz.

Speaking at the FRTB Implementation Summit Europe last month, John Mitchell, a director of market risk analytics at Credit Suisse, suggested any recalibration of the rules is likely to be driven more by which asset classes are important for the local market, rather than any scientific approach. He compared this with the CRR II draft, which would ease the Basel treatment of covered bonds in Europe, and suggested the US would focus on debt issued by government-supported mortgage-guarantee agencies Fannie Mae and Freddie Mac.

Using the Basel methodology, Ginnie Mae would count as a government-guaranteed agency, but Fannie and Freddie would constitute financial institutions with a higher FRTB default-risk charge.

“Ginnie Mae gets a 50 basis point shock, but Fannie Mae doesn’t have the explicit government guarantee, [so there is] a 500bp shock – that is a big cliff to fall off. I don’t think that will ever come to fruition in the US,” said Mitchell.

Whatever changes the US makes to the rules, European sources welcome the proposed delay, because they believe it will strengthen their argument for the EC to postpone its own implementation until Basel has completed its discussions on FRTB in particular. The reaction of Markus Ferber, deputy chairman of the European Parliament’s economic and monetary affairs committee, suggests this approach will find some sympathy among lawmakers.

“I have always been a proponent of the idea that the EU should only implement international rules such as the ones devised by the Basel Committee when it is clear everyone else is sticking to them. That not only applies for the rules we have already agreed on, but also for the ones still under discussion in the Basel Committee right now. There is no point in becoming everybody’s darling by implementing international standards one for one while the EU banking system goes down the drain,” he says.

But RiskTransform’s Obitz believes the EC may already have found an interesting way of calibrating the capital measures realistically, by introducing the new market risk rules with a 65% discount at the outset. This will be ramped up to full compliance over three years.

“This gives banks time to understand the new rules and optimise their capital management to them while providing the regulator with realistic inputs to decide on ongoing calibration,” says Obitz.

Additional reporting by Samuel Wilkes

Could the FDIC block change?

The impact of the vast array of regulatory reforms proposed by Treasury secretary Steven Mnuchin on Monday is dependent on their implementation. The review contains a large table suggesting most of the changes to prudential regulation can be achieved by rulemaking at the Federal agencies, rather than requiring the passage of new legislation through Congress.

But this is no guarantee of success, points out a regulatory expert at a global bank, especially given the Federal Deposit Insurance Corporation’s (FDIC) strong defence of the existing leverage ratio in particular. The Treasury cannot instruct the agencies directly and instead the report consists of a list of “recommendations”.

“I note the proposed changes to supplementary leverage ratio do not require Congressional action, although they would appear to take the US outside of Basel compliance and, domestically, would mark a significant shift in the FDIC’s position,” says the regulatory expert.

President Donald Trump has installed his appointee, Keith Noreika, at the Office of the Comptroller of the Currency and is preparing nominations for open posts at the Federal Reserve, including the role of head of supervision. By contrast, the current term of the chairman of the FDIC, Martin Gruenberg, is due to expire only in November 2017, while his vice-chairman, Thomas Hoenig – a passionate defender of the US leverage ratio status quo – will hold his post until March 2018.

Oliver Ireland, a partner at law firm Morrison & Foerster and former legal counsel at the Fed, says any opposition to the Mnuchin report from the FDIC need not stall the process of preparing to implement the Treasury’s recommendations across the other two prudential regulators.

“I’ve done inter-agency rule-writing: if you have one agency and you think they are being difficult, and their chairman could change in the identifiable future, what do you do? I would be polite, but I would ignore them. If [an agency] won’t play early, they are going to reduce their influence in the endgame,” says Ireland.


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