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Proposed Enhanced Prudential Standards Released for Foreign Banking Organizations

May 31, 2019

Section 165 of the Dodd-Frank Act implemented Enhanced Prudential Standards (“EPS”) for large banking institutions, generally defined as institutions with $50 billion in total consolidated assets.

This regulation received criticism for being too stringent on banking institutions, while the $50 billion threshold appeared arbitrary to many. In response, Congress passed the Economic Growth, Regulatory Relief, and Consumer Protection Act (the “EGRRCPA”) which became law on May 24, 2018. The EGRRCPA increased the threshold for what would be considered a large banking organization while allowing the FRB discretion in determining the application of EPS to better align prudential standards with the risk of the individual organization.

While the FRB issued a proposal to tailor the EPS for larger US banking organizations in October 2018, it had remained silent on changes for Foreign Banking Organizations (“FBOs”) until a recently issued proposal on April 8, 2019.

The new proposal for FBOs mirrors that of the October 2018 proposal for US Banks by establishing four categories with different requirements involving a combination of risk indicators. While the “size” risk indicator uses a multi-tiered threshold approach (detailed in the first chart below), each of the other risk indicator uses a threshold of $75 billion.

Unlike the proposal for domestic banks, the FBO proposal skips Category I, which was designed for US Global Systemically Important Bank Holding Companies (“US GSIBs”), a classification that does not apply to FBOs. Under the current proposal, the largest FBOs can only fall under Category II, with lower threshold tiers falling into Category III and Category IV. Using a combination of risk indicators could lead two FBOs to be included in the same Category for different reasons.

Finally, FBOs with “limited US presence” (defined in the proposal as $50-$100 billion of US assets and global assets of $100 billion or more) would be subject to certain minimum standards.

The EPS Requirements

1. IHC requirement

The proposal would not modify the > $50 billion US non-branch assets threshold that requires a foreign banking organization to form an IHC. As such, this would cover FBOs in all categories in addition to FBOs with limited US presence.

2. Capital Requirements

As US branches and agencies of FBOs do not maintain regulatory capital separate from their parent, capital standards in the amended EPS proposal would be based on the risk profile of the respective IHC. Requirements based on each Category are listed in the chart below:

3. Single-Counterparty Credit Limits (“SCCL”)

Designed to limit the threat that failure of any individual firm could pose to the FBO, this rule limits credit exposure to any unaffiliated company, generally to 25% of capital stock and surplus for FBOs under US IHC-level standards. Under the proposal, FBOs with global assets of $250 billion and over would need to at least meet their home country SCCL standards, consistent with Basel, while FBOs in Categories II or III would need to comply with home country and US IHC-level SCCL standards.

4. Risk Management

FBOs in all categories in addition to FBOs with “limited US presence” will continue to be required to maintain their US Risk Committees and their Chief Risk Officers, as originally required by section 165 of Dodd-Frank, to ensure that FBOs recognize and control risks.

5. Liquidity Requirement

  • As short-term funding poses greater risk to liquidity, under the proposal:
    1. FBOs with wSTWF of $75 billion and over would follow Category II liquidity requirements.
    2. FBOs with wSTWF of between $50 billion and $75 billion would report on reduced liquidity coverage ratio (“LCR”) and net stable funding ratio (“NSFR”) (70-85%) daily, if in Category III, or monthly, in Category IV
    3. Below $50 billion of wSTWF there are no LCR and NSFR requirements, if the FBO is in Category IV or with limited US presence.

The list of FBO projected categories based on Q3 2018 data, released by the FRB, is below. Because FBOs do not currently report the necessary data on cross-jurisdictional activity, those highlighted in purple would fall into Category III, unless their cross-jurisdictional activity is $75 billion or above, in which case they would fall into Category II.

The proposal for tailoring the Enhanced Prudential Standards is currently being debated by regulators, lawmakers and industry leaders. In the May 15, 2019 Senate Banking Hearing on Oversight of Financial Regulators, many areas were covered, including the economic risks of deregulation, appropriate tailoring of FBO risk and ensuring a level playing field between FBOs and US Banks with similar risk profiles. The FRB is currently seeking comments on the new proposal from the public. Comments are due June 21, 2019.

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