{
  "title": "Back to the Future: The Nature of Regulatory Capital Requirements",
  "publication": "IMF Working Papers, August 4, 2017",
  "sourceUrl": "https://www.imf.org/en/publications/wp/issues/2017/08/04/back-to-the-future-the-nature-of-regulatory-capital-requirements-45160",
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  "summary": "This paper compares the current regulatory capital requirements under the Dodd-Frank Act (DFA) and the 10-percent leverage ratio, as proposed by the U.S. Treasury and the U.S. House of Representatives' Financial CHOICE Act (FCA). We find that the majority of U.S.",
  "sections": [
    {
      "heading": "Summary and main findings",
      "content": "- The paper compares current regulatory capital requirements under the Dodd-Frank Act (DFA) with a 10-percent leverage ratio proposal advanced by the U.S. Treasury and the U.S. House Financial CHOICE Act (FCA).\n- Majority of U.S. banks would not qualify for an \"off-ramp\" option—where regulatory relief is offered to FCA qualifying banks (QBOs)—unless considerable amounts of capital are added.\n- Large banks are much closer to the proposed leverage threshold and are therefore more likely to gain from regulatory relief.\n- The paper identifies an important moral hazard problem arising from QBO optionality: banks are likely to increase the riskiness of their asset portfolios to qualify for FCA “off-ramp” relief, with unintended effects on financial stability."
    },
    {
      "heading": "Analysis and risks",
      "content": "- Moral hazard and portfolio-composition effects:\n  - QBO optionality creates incentives for banks to raise measured leverage compliance by shifting asset composition toward higher-risk, higher-yielding assets.\n  - Such shifts can undermine financial stability by increasing system-wide risk despite meeting a leverage-ratio-based off-ramp.\n- Distributional impact across banks:\n  - Large banks are closer to the 10-percent leverage threshold relative to smaller banks, implying asymmetric gains from any off-ramp relief."
    },
    {
      "heading": "Policy implications and considerations",
      "content": "- Eligibility design:\n  - Off-ramp criteria should account for incentives that encourage riskier asset portfolios to prevent erosion of financial-stability objectives.\n- Capital adequacy framework:\n  - Policymakers should consider interactions between leverage-based relief and risk-weighted capital requirements to avoid regulatory arbitrage and perverse portfolio incentives.\n- Supervision and monitoring:\n  - Enhanced supervisory scrutiny may be required if optionality is introduced to detect shifts in portfolio risk-taking that exploit the off-ramp.\n\n---\n\n Content in this bundle\n\n- Back to the Future: The Nature of Regulatory Capital Requirements, WP/17/181, August 2017\n  - Back to the Future: The Nature of Regulatory Capital Requirements, WP/17/181, August 2017 (Markdown version){rel=\"alternate\" type=\"text/markdown\"}\n  - Back to the Future: The Nature of Regulatory Capital Requirements, WP/17/181, August 2017 (PDF){rel=\"external\" type=\"application/pdf\"}\n\n---\n\nSource: https://www.imf.org/en/publications/wp/issues/2017/08/04/back-to-the-future-the-nature-of-regulatory-capital-requirements-45160"
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    "Authors: Ralph Chami, Thomas F. Cosimano, Emanuel Kopp, Celine Rochon",
    "Published: August 4, 2017",
    "Series: IMF Working Papers",
    "DOI: https://doi.org/10.5089/9781484313817.001",
    "The paper compares current regulatory capital requirements under the Dodd-Frank Act (DFA) with a 10-percent leverage ratio proposal advanced by the U.S. Treasury and the U.S. House Financial CHOICE Act (FCA).",
    "Majority of U.S. banks would not qualify for an \"off-ramp\" option—where regulatory relief is offered to FCA qualifying banks (QBOs)—unless considerable amounts of capital are added.",
    "Large banks are much closer to the proposed leverage threshold and are therefore more likely to gain from regulatory relief.",
    "The paper identifies an important moral hazard problem arising from QBO optionality: banks are likely to increase the riskiness of their asset portfolios to qualify for FCA “off-ramp” relief, with unintended effects on financial stability.",
    "Moral hazard and portfolio-composition effects:",
    "Distributional impact across banks:",
    "Eligibility design:",
    "Capital adequacy framework:",
    "Supervision and monitoring:",
    "**Back to the Future: The Nature of Regulatory Capital Requirements, WP/17/181, August 2017**"
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