EC to fight new US prudential rules for foreign banks, says EBF

EC "very concerned" about capital and liquidity proposals, says chief executive of the European Banking Federation

The European Commission will take the side of the region's banks in a fight over controversial US proposals that would see foreign institutions regulated locally as standalone entities – on the basis of their own capital and liquidity resources, rather than those of their parent – according to the chief executive of the European Banking Federation (EBF).

"The EC is very concerned about this," says Guido Ravoet, the Brussels-based head of the industry group. "It has shown a very good understanding of the danger that these proposals pose towards European banks operating in the US."

Ravoet says the EC is tying the issue to free trade talks that the European Union and the US agreed in February to enter. Michel Barnier, the EC's financial services commissioner, reportedly raised the issue with US Treasury Secretary Jack Lew, when the two met in Brussels on April 8.

The US rules would apply to any overseas firm with global assets of $50 billion or more, and were released by the Federal Reserve on December 14 last year as an extension of the regulator's Dodd-Frank Act rule-making process. Affected firms must set up an intermediate holding company (IHC) to contain all their US business, which would be separately resourced with capital and liquidity. The aim is to ensure US units are able to stand on their own two feet in capital terms, and do not come to rely too heavily on short-term US dollar wholesale funding. Once an IHC is set up, it would not be allowed to pass funding back to its foreign parent.

This could be a costly process. According to research from Morgan Stanley and Oliver Wyman, some European banks would need to get their hands on tens of billions of US dollars of extra capital, with Deutsche Bank and Barclays likely to be the worst affected. Providing the new units with sufficient liquidity could be challenging too, as most European banks don't have retail operations in the US, making it difficult for them to meet Basel III's long-term liquidity measure, the net stable funding ratio, which sets a high value on sticky retail deposits.

The comment period for the rules ended on March 31, but has since been extended. Currently, only seven comment letters appear on the Fed website, and only one from a non-US bank – a short note from the US arm of Natixis, pointing out a minor mistake in the proposals. In private, though, European banks are fuming, and they welcome the EC's support.

"We can deal with the increased costs if we have to," says a senior regulatory adviser at a large European bank. "What is unacceptable to us is the blatant discrimination on show. The proposals contravene any notion of fair treatment of domestic and offshore banks by a host country. For instance, US regulators will assess European IHCs on a standalone basis, with no attention paid to the parent group as a whole, whereas US firms will be assessed on a consolidated basis, giving them the advantage of diversification. We are very glad the EC is supporting us on this matter."

The EC is very concerned about this. It has shown a very good understanding of the danger that these proposals pose

There is no expectation of a quick solution, and there are many in the US who urge the Federal Reserve to stick to its guns. "I think this is a courageous step," says Sheila Bair, former chairwoman of the Federal Deposit Insurance Corporation. "The Federal Reserve had to provide a lot of support to foreign banks during the crisis and its aftermath, so this is an understandable effort at self-protection and systemic stability. It will be much easier to maintain and insulate the operations of these US entities from problems overseas if they are separately funded from the parent group. Banks from Europe and elsewhere draw tremendous benefits from their US operations – dollar funding, access to deposit insurance and the Fed's discount window. They have to accept that there are trade-offs with these benefits."

Overseas regulators have largely been silent on the rules, but speaking to Risk last month, Mark Branson, head of bank supervision at Switzerland's prudential regulator, Eidgenössische Finanzmarktaufsicht, said the US proposals could undermine attempts to develop a global approach to bailing-in bondholders of cross-border banking groups. The danger, he said, is that other regulators could follow the US approach, trapping pools of capital and liquidity at the subsidiary level for international banks and making it difficult to co-ordinate bail-in triggers.

"There are very understandable reasons for the US to move in that direction and we can have a lot of sympathy for the motivations... The danger of this multiple-entry approach, where everyone looks after their own entities, is that it very quickly triggers an uncontrolled sequence of defaults on a global basis," he said.

A feature on the IHC proposals will appear in the May issue of Risk