Regulatory Capital Rules: The Federal Reserve Board's Framework for Implementing the U.S. Basel III Countercyclical Capital Buffer, 5661-5666 [2016-01934]

Agencies

• FEDERAL RESERVE SYSTEM

[Federal Register Volume 81, Number 22 (Wednesday, February 3, 2016)]
[Proposed Rules]
[Pages 5661-5666]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-01934]


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FEDERAL RESERVE SYSTEM

12 CFR Part 217

[Docket No. R-1529]
RIN 7100 AE-43


Regulatory Capital Rules: The Federal Reserve Board's Framework 
for Implementing the U.S. Basel III Countercyclical Capital Buffer

AGENCY: Board of Governors of the Federal Reserve System.

ACTION: Proposed policy statement with request for public comment.

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SUMMARY: The Board is inviting public comment on a policy statement on 
the framework that the Board will follow in setting the amount of the 
U.S. countercyclical capital buffer for advanced approaches bank 
holding companies, savings and loan holding companies, and state member 
banks under the Board's Regulation Q (12 CFR part 217).

DATES: Comments must be received on or before March 21, 2016. Comments 
were originally due by February 19, 2016.

ADDRESSES: You may submit comments, identified by Docket No. R-1529 and 
RIN 7100 AE-43 by any of the following methods:
     Agency Web site: https://www.federalreserve.gov. Follow the 
instructions for submitting comments at https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.aspx.
     Federal eRulemaking Portal: https://www.regulations.gov. 
Follow the instructions for submitting comments.

[[Page 5662]]

     Email: regs.comments@federalreserve.gov. Include the 
docket number and RIN number in the subject line of the message.
     Fax: (202) 452-3819 or (202) 452-3102.
     Mail: Robert V. Frierson, Secretary, Board of Governors of 
the Federal Reserve System, 20th Street and Constitution Avenue NW., 
Washington, DC 20551.
    All public comments will be made available on the Board's Web site 
at https://www.federalreserve.gov/generalinfo/foia/ProposedRegs.aspx as 
submitted, unless modified for technical reasons. Accordingly, your 
comments will not be edited to remove any identifying or contact 
information. Public comments may also be viewed electronically or in 
paper form in Room MP-500 of the Board's Martin Building (20th and C 
Streets NW., Washington, DC 20551) between 9 a.m. and 5 p.m. on 
weekdays.

FOR FURTHER INFORMATION CONTACT: William Bassett, Deputy Associate 
Director, (202) 736-5644, or Rochelle Edge, Deputy Associate Director, 
(202) 452-2339, Office of Financial Stability Policy and Research; Sean 
Campbell, Associate Director, (202) 452-3760, Division of Banking 
Supervision and Regulation; Benjamin W. McDonough, Special Counsel, 
(202) 452-2036, Mark Buresh, Senior Attorney, (202) 452-5270, or Mary 
Watkins, Attorney, (202) 452-3722, Legal Division.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Background
II. Proposed Policy Statement
III. Administrative Law Matters
    A. Use of Plain Language
    B. Paperwork Reduction Act Analysis
    C. Regulatory Flexibility Act Analysis

I. Background

    The Board of Governors of the Federal Reserve System (Board) issued 
in June 2013 a final regulatory capital rule (Regulation Q) in 
coordination with the Office of the Comptroller of the Currency (OCC) 
and the Federal Deposit Insurance Corporation (FDIC) to strengthen 
risk-based and leverage capital requirements applicable to insured 
depository institutions and certain depository institution holding 
companies (banking organizations).\1\ Among the changes that Regulation 
Q introduced was the institution of a countercyclical capital buffer 
(CCyB) for large, internationally active banking organizations.\2\
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    \1\ See 78 FR 62018 (October 11, 2013) (Board and OCC); 79 FR 
20754 (April 14, 2014) (FDIC). Regulation Q applies generally to 
bank holding companies with more than $1 billion in total 
consolidated assets and savings and loan holding companies with more 
than $1 billion in total consolidated assets that are not 
substantially engaged in commercial or insurance underwriting 
activities. See 12 CFR 217.1(c)(1).
    \2\ 12 CFR 217.11(b).
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    The CCyB is a macroprudential policy tool that the Board can 
increase during periods of rising vulnerabilities in the financial 
system and reduce when vulnerabilities recede.\3\ The CCyB supplements 
the minimum capital requirements and other capital buffers included in 
Regulation Q, which themselves are designed to provide substantial 
resilience to unexpected losses created by normal fluctuations in 
economic and financial conditions. The CCyB is designed to increase the 
resilience of large banking organizations when the Board sees an 
elevated risk of above-normal losses. Increasing the resilience of 
large banking organizations should, in turn, improve the resilience of 
the broader financial system. Above-normal losses often follow periods 
of rapid asset price appreciation or credit growth that are not well 
supported by underlying economic fundamentals. The circumstances in 
which the Board would most likely use the CCyB as a supplemental, 
macroprudential tool to augment minimum capital requirements and other 
capital buffers would be to address circumstances when potential 
systemic vulnerabilities are somewhat above normal. By requiring 
advanced approaches institutions to hold a larger capital buffer during 
periods of increased systemic risk and removing the buffer requirement 
when the vulnerabilities have diminished, the CCyB has the potential to 
moderate fluctuations in the supply of credit over time.
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    \3\ Implementation of the CCyB also helps respond to the 
provision in the Dodd-Frank Wall Street Reform and Consumer 
Protection Act (Dodd-Frank Act) that the agencies ``shall seek to 
make such [capital] requirements countercyclical, so that the amount 
of capital required to be maintained by a company increases in times 
of economic expansion and decreases in times of economic 
contraction, consistent with the safety and soundness of the 
company.'' See 12 U.S.C. 1467a; 12 U.S.C. 1844; 12 U.S.C. 3907 (as 
amended by section 616 of the Dodd-Frank Act).
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    The CCyB applies to banking organizations subject to the advanced 
approaches capital rules (advanced approaches institutions).\4\ The 
advanced approaches capital rules generally apply to banking 
organizations with greater than $250 billion in total assets or $10 
billion in on-balance-sheet foreign exposure and to any depository 
institution subsidiary of such banking organizations.\5\
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    \4\ An advanced approaches institution is subject to the CCyB 
regardless of whether it has completed the parallel run process and 
received notification from its primary Federal supervisor pursuant 
to Sec.  217.121(d) of Regulation Q.
    \5\ 12 CFR 217.100(b)(1).
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    The CCyB functions as an expansion of the Capital Conservation 
Buffer (CCB). The CCB requires that a banking organization hold a 
buffer of common equity tier 1 capital in excess of the minimum risk-
based capital ratios greater than 2.5 percent of risk-weighted assets 
to avoid limits on capital distributions and certain discretionary 
bonus payments.\6\ The CCB is divided into quartiles, each associated 
with increasingly stringent limitations on capital distributions and 
certain discretionary bonus payments as the firm's risk-based capital 
ratios approach regulatory minimums.\7\
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    \6\ 12 CFR 217.11(b)(1)(i).
    \7\ 12 CFR 217.11(a).
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    As described in Regulation Q, the CCyB applies based on the 
location of exposures by national jurisdiction.\8\ Specifically, the 
applicable CCyB amount for a banking organization is equal to the 
weighted average of CCyB amounts established by the Board for the 
national jurisdictions where the banking organization has private-
sector credit exposures.\9\ The CCyB amount applicable to a banking 
organization is weighted by jurisdiction according to the firm's risk-
weighted private-sector credit exposures for a specific jurisdiction as 
a percentage of the firm's overall risk-weighted private-sector credit 
exposures.\10\
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    \8\ 12 CFR 217.11(b)(1). The Board may adjust the CCyB amount to 
reflect decisions made by foreign jurisdictions. See 12 CFR 
217.11(b)(3).
    \9\ 12 CFR 217.11(b)(1).
    \10\ Id.
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    Regulation Q established the initial CCyB amount with respect to 
private-sector credit exposures located in the United States (U.S.-
based credit exposures) at zero percent. Following a phase-in period, 
the amount of the CCyB will vary between 0 and 2.5 percent of risk-
weighted assets. Under the phase-in schedule, the maximum potential 
amount of the CCyB for U.S.-based credit exposures is 0.625 percentage 
points in 2016, 1.25 percentage points in 2017, 1.875 percentage points 
in 2018, and 2.5 percentage points in 2019 and all subsequent 
years.\11\ To provide banking organizations with sufficient time to 
adjust to any change to the CCyB, an increase in the amount of the CCyB 
for U.S.-based credit exposures will have an effective date 12 months 
after the determination, unless the Board determines that a more 
immediate implementation is necessary based on

[[Page 5663]]

economic conditions.\12\ In contrast, Regulation Q states that a 
decision by the Board to decrease the amount of the CCyB for U.S.-based 
credit exposures would become effective the day after the Board decides 
to decrease the CCyB or the earliest date permissible under applicable 
law or regulation, whichever is later.\13\ The amount of the CCyB for 
U.S.-based credit exposures will return to 0 percent 12 months after 
the effective date of any CCyB adjustment, unless the Board announces a 
decision to maintain the current amount or adjust it again before the 
expiration of the 12-month period.\14\
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    \11\ 12 CFR 217.300(a)(2).
    \12\ 12 CFR 217.11(b)(2)(v)(A).
    \13\ 12 CFR 217.11(b)(2)(v)(B).
    \14\ 12 CFR 217.11(b)(2)(vi).
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    The Board expects to make decisions about the appropriate level of 
the CCyB on U.S.-based credit exposures jointly with the OCC and FDIC. 
In addition, the Board expects that the CCyB amount for U.S.-based 
credit exposures would be the same for covered insured depository 
institutions as for covered depository institution holding companies. 
The CCyB is designed to take into account the broad macroeconomic and 
financial environment in which banking organizations function and the 
degree to which that environment impacts the resilience of the group of 
advanced approaches institutions. Therefore, the Board's determination 
of the appropriate level of the CCyB for U.S.-based credit exposures 
would be most directly linked to the condition of the overall financial 
environment rather than the condition of any individual banking 
organization. But, the overall CCyB requirement for a banking 
organization will vary based on the organization's particular 
composition of private sector credit exposures located across national 
jurisdictions.

II. Proposed Policy Statement

    The proposed policy statement (Policy Statement) describes the 
framework that the Board would follow in setting the amount of the CCyB 
for U.S.-based credit exposures. The framework consists of a set of 
principles for translating assessments of financial-system 
vulnerabilities that are regularly undertaken at the Board into the 
appropriate level of the CCyB. Those assessments are informed by a 
broad array of quantitative indicators of financial and economic 
performance and a set of empirical models. In addition, the framework 
includes a discussion of how the Board would assess whether the CCyB is 
the most appropriate policy instrument (among available policy 
instruments) to address the highlighted financial-system 
vulnerabilities.
    The proposed Policy Statement is organized as follows. Section 1 
provides background on the proposed Policy Statement. Section 2 is an 
outline of the proposed Policy Statement and describes its scope. 
Section 3 provides a broad description of the objectives of the CCyB, 
including a description of the ways in which the CCyB is expected to 
protect large banking organizations and the broader financial system. 
Section 4 provides a broad description of the factors that the Board 
considers in setting the CCyB, including specific financial-system 
vulnerabilities and types of quantitative indicators of financial and 
economic performance, and outlines of empirical models the Board may 
use as inputs to that decision. Further, section 4 describes a set of 
principles that the Board expects to use for combining judgmental 
assessments with quantitative indicators to determine the appropriate 
level of the CCyB. Section 5 discusses how the Board will communicate 
the level of the CCyB and any changes to the CCyB. Section 6 describes 
how the Board plans to monitor the effects of the CCyB, including what 
indicators and effects will be monitored.
    The Board seeks comment on all aspects of the proposed Policy 
Statement.
    Question 1. In what ways could the Board improve its proposed 
framework for making decisions on the CCyB?
    Question 2. The proposed Policy Statement describes a set of 
principles for translating judgmental assessments of financial-system 
vulnerabilities into specific levels of the CCyB, a set of empirical 
models used as inputs to the judgmental process that distill and 
translate quantitative indicators of financial and economic performance 
into potential settings for the CCyB, and an assessment of whether the 
CCyB is the most appropriate policy instrument to address highlighted 
financial-system vulnerabilities. Are there any other considerations 
that should form part of the CCyB decision-making framework?
    Question 3. To what extent does the Board's proposed framework for 
determining the appropriate level of the CCyB capture the appropriate 
set of financial-system vulnerabilities? Are there any vulnerabilities 
that should also be considered or are there vulnerabilities that should 
be given greater or less consideration? How should vulnerabilities 
developing outside of the banking sector be considered as compared to 
vulnerabilities developing inside of the banking sector?

III. Administrative Law Matters

A. Use of Plain Language

    Section 722 of the Gramm-Leach-Bliley Act (Pub. L. 106-102, 113 
Stat. 1338, 1471, 12 U.S.C. 4809) requires the Federal banking agencies 
to use plain language in all proposed and final rules published after 
January 1, 2000. The Board has sought to present the proposed policy 
statement in a simple and straightforward manner, and invites comment 
on the use of plain language.

B. Paperwork Reduction Act Analysis

    In accordance with the requirements of the Paperwork Reduction Act 
of 1995 (44 U.S.C. 3506), the Board has reviewed the proposed policy 
statement to assess any information collections. There are no 
collections of information as defined by the Paperwork Reduction Act in 
the proposal.

C. Regulatory Flexibility Act Analysis

    The Board is providing an initial regulatory flexibility analysis 
with respect to this proposed Policy Statement. As discussed above, the 
proposed Policy Statement is designed to provide additional information 
regarding the factors that the Board expects to consider in evaluating 
whether to change the CCyB applicable to private-sector credit 
exposures located in the United States. The Regulatory Flexibility Act, 
5 U.S.C. 601 et seq. (RFA), generally requires that an agency prepare 
and make available an initial regulatory flexibility analysis in 
connection with a notice of proposed rulemaking. Under regulations 
issued by the Small Business Administration, a small entity includes a 
bank holding company with assets of $550 million or less (small bank 
holding company).\15\ As of December 31, 2014, there were approximately 
3,441 small BHCs, 187 small SLHCs, and 644 small state member banks.
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    \15\ See 13 CFR 121.201. Effective July 14, 2014, the Small 
Business Administration revised the size standards for banking 
organizations to $550 million in assets from $500 million in assets. 
79 FR 33647 (June 12, 2014).
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    The proposed Policy Statement would relate only to advanced 
approaches institutions, which, generally, are banking organizations 
with total consolidated assets of $250 billion or more, that have total 
consolidated on-balance sheet foreign exposure of $10 billion or more, 
are a subsidiary of an advanced approaches depository institution, or 
that elect to use the advanced approaches framework.\16\ Banking 
organizations that would be covered by the proposed Policy

[[Page 5664]]

Statement substantially exceed the $550 million asset threshold at 
which a banking entity would qualify as a small bank holding company, 
small savings and loan holding company, or small state member bank. 
Currently, no small top-tier bank holding company, small top-tier 
savings and loan holding company, or small state member bank is an 
advanced approaches institution, so there would be no additional 
projected compliance requirements imposed on small bank holding 
companies, small savings and loan holding companies, or small state 
member banks.
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    \16\ 12 CFR 217.100(b)(1).
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    Therefore, there are no significant alternatives to the proposal 
that would have less economic impact on small banking organizations. 
There are no projected reporting, recordkeeping, or other compliance 
requirements of the proposal. The Board does not believe that the 
proposal duplicates, overlaps, or conflicts with any other Federal 
rules. In light of the foregoing, the Board does not believe that the 
proposal, if adopted in final form, would have a significant economic 
impact on a substantial number of small entities. Nonetheless, the 
Board seeks comment on whether the proposal would impose undue burdens 
on, or have unintended consequences for, small organizations, and 
whether there are ways such potential burdens or consequences could be 
minimized in a manner consistent with the purpose of the proposal. A 
final regulatory flexibility analysis will be conducted after 
consideration of comments received during the public comment period.

List of Subjects in 12 CFR Part 217

    Administrative practice and procedure, Banks, banking. Holding 
companies, Reporting and recordkeeping requirements, Securities.

Authority and Issuance

    For the reasons stated in the Supplementary Information, the Board 
of Governors of the Federal Reserve System proposes to add the Policy 
Statement as set forth at the end of the Supplementary Information as 
appendix A to part 217 of 12 CFR chapter II as follows:

PART 217--CAPITAL ADEQUACY OF BANK HOLDING COMPANIES, SAVINGS AND 
LOAN HOLDING COMPANIES, AND STATE MEMBER BANKS

0
1. The authority citation for part 217 continues to read as follows:

    Authority: 12 U.S.C. 248(a), 321-338a, 481-486, 1462a, 1467a, 
1818, 1828, 1831n, 1831o, 1831p-l, 1831w, 1835, 1844(b), 1851, 3904, 
3906-3909, 4808, 5365, 5368, 5371.

PART 217--CAPITAL ADEQUACY OF BANK HOLDING COMPANIES, SAVINGS AND 
LOAN HOLDING COMPANIES, AND STATE MEMBER BANKS

0
2. Appendix A to part 217 is added to read as follows:

Appendix A to Part 217--The Federal Reserve Board's Framework for 
Implementing the Countercyclical Capital Buffer

1. Background

    The Board of Governors of the Federal Reserve System (Board) 
issued a final regulatory capital rule (Regulation Q) in 
coordination with the Office of the Comptroller of the Currency 
(OCC) and the Federal Deposit Insurance Corporation (FDIC) that 
strengthened risk-based and leverage capital requirements applicable 
to insured depository institutions and depository institution 
holding companies (banking organizations).\1\ Among those changes 
was the introduction of a countercyclical capital buffer (CCyB) for 
large, internationally active banking organizations.\2\
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    \1\ See 78 FR 62018 (October 11, 2013) (Board and OCC); 79 FR 
20754 (April 14, 2014) (FDIC).
    \2\ 12 CFR 217.11(b). The CCyB applies only to banking 
organizations subject to the advanced approaches capital rules, 
which generally apply to those banking organizations with greater 
than $250 billion in assets or more than $10 billion in on-balance-
sheet foreign exposures. See 12 CFR 217.100(b). An advanced 
approaches institution is subject to the CCyB regardless of whether 
it has completed the parallel run process and received notification 
from its primary Federal supervisor. See 12 CFR 217.121(d).
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    The CCyB is a macroprudential policy tool that the Board can 
increase during periods of rising vulnerabilities in the financial 
system and reduce when vulnerabilities recede. It is designed to 
increase the resilience of large banking organizations when 
policymakers see an elevated risk of above-normal losses. Increasing 
the resilience of large banking organizations should, in turn, 
improve the resilience of the broader financial system. Above-normal 
losses often follow periods of rapid asset price appreciation or 
credit growth that are not well supported by underlying economic 
fundamentals. The circumstances in which the Board would most likely 
use the CCyB as a supplemental, macroprudential tool to augment 
minimum capital requirements and other capital buffers would be to 
address circumstances when potential systemic vulnerabilities are 
somewhat above normal. By requiring large banking organizations to 
hold additional capital during those periods of excess and removing 
the requirement to hold additional capital when the vulnerabilities 
have diminished, the CCyB also is expected to moderate fluctuations 
in the supply of credit over time.\3\ Further, Regulation Q 
established the initial CCyB amount with respect to U.S.-based 
credit exposures at zero percent and provided that the maximum 
potential amount of the CCyB for credit exposures in the United 
States was 2.5 percent of risk-weighted assets.\4\
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    \3\ Implementation of the CCyB also helps respond to the Dodd-
Frank Act's requirement that the Board seek to make its capital 
requirements countercyclical 12 U.S.C. 1844(b), 1464a(g)(1), and 
3907(a)(1) (codifying sections 616(a), (b), and (c) of the Dodd-
Frank Act).
    \4\ The CCyB is subject to a phase-in arrangement between 2016 
and 2019. See 12 CFR 217.300(a)(2).
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    The Board expects to make decisions about the appropriate level 
of the CCyB on U.S.-based credit exposures jointly with the OCC and 
FDIC, and expects that the CCyB amount for U.S.-based credit 
exposures will be the same for covered depository institution 
holding companies and insured depository institutions. The CCyB is 
designed to take into account the macrofinancial environment in 
which banking organizations function and the degree to which that 
environment impacts the resilience of the group of advanced 
approaches institutions. Therefore, the appropriate setting of the 
CCyB for private sector credit exposures located in the United 
States (U.S.-based credit exposures) is not closely linked to the 
characteristics of an individual institution. However, the overall 
CCyB for each institution will differ because the CCyB is weighted 
based on a banking organization's particular composition of private-
sector credit exposures across national jurisdictions.

2. Overview and Scope of the Policy Statement

    This Policy Statement describes the framework that the Board 
will follow in setting the amount of the CCyB for U.S.-based credit 
exposures. The framework consists of a set of principles for 
translating assessments of financial-system vulnerabilities that are 
regularly undertaken by the Board into the appropriate level of the 
CCyB. Those assessments are informed by a broad array of 
quantitative indicators of financial and economic performance and a 
set of empirical models. In addition, the framework includes an 
assessment of whether the CCyB is the most appropriate policy 
instrument (among available policy instruments) to address the 
highlighted financial-system vulnerabilities.

3. The Objectives of the CCyB

    The objectives of the CCyB are to strengthen banking 
organizations' resilience against the build-up of systemic 
vulnerabilities and reduce fluctuations in the supply of credit. The 
CCyB supplements the minimum capital requirements and the capital 
conservation buffer, which themselves are designed to provide 
substantial resilience to unexpected losses created by normal 
fluctuations in economic and financial conditions. The capital 
surcharge on global systemically important banking organizations 
adds an additional layer of defense for the largest and most 
systemically important institutions, whose financial distress can 
have outsized effects on the rest of the financial system and real 
economy.\5\ However, periods of financial excesses, as reflected in 
episodes of rapid

[[Page 5665]]

asset price appreciation or credit growth not well supported by 
underlying economic fundamentals, are often followed by above-normal 
losses that leave banking organizations and other financial 
institutions undercapitalized. Therefore, the Board would most 
likely apply the CCyB in those circumstances when systemic 
vulnerabilities are somewhat above normal.
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    \5\ See 80 FR 49082 (August 14, 2015).
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    The CCyB is expected to help provide additional resilience for 
advanced approaches institutions, and by extension the broader 
financial system, against elevated vulnerabilities primarily in two 
ways. First, advanced approaches institutions will likely hold more 
capital to avoid limitations on capital distributions and 
discretionary bonus payments resulting from implementation of the 
CCyB. Strengthening their capital positions when financial 
conditions are accommodative would increase the capacity of advanced 
approaches institutions to absorb outsized losses during a future 
significant economic downturn or period of financial instability, 
thus making them more resilient. The second and related goal of the 
CCyB is to promote a more sustainable supply of credit over the 
economic cycle.
    During a credit cycle downturn, better-capitalized institutions 
have been shown to be more likely to have continued access to 
funding and less likely to take actions that lead to broader 
financial-sector distress and its associated macroeconomic costs, 
such as large-scale sales of assets at prices below their 
fundamental value and sharp contractions in credit supply.\6\ 
Therefore, it is likely that as a result of the CCyB having been put 
into place during a period of rapid credit creation, advanced 
approaches institutions would be better positioned to continue their 
important intermediary functions during a subsequent economic 
contraction. A timely and credible reduction in the CCyB requirement 
during a period of high credit losses could reinforce those 
beneficial effects of a higher base level of capital, because it 
would permit advanced approaches institutions either to realize loan 
losses promptly and remove them from their balance sheets or to 
expand their balance sheets, for example by continuing to lend to 
creditworthy borrowers.
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    \6\ For additional background on the relationship between 
financial distress and economic outcomes, see Carmen Reinhart and 
Kenneth Rogoff (2009), This Time is Different. Princeton University 
Press; [Ograve]scar Jord[agrave] & Moritz Schularick & Alan M. 
Taylor (2011), ``Financial Crises, Credit Booms, and External 
Imbalances: 140 Years of Lessons,'' IMF Economic Review, Palgrave 
Macmillan, vol. 59(2), pages 340-378; and Bank for International 
Settlements (2010), ``Assessing the Long-Run Economic Impact of 
Higher Capital and Liquidity Requirements.''
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    Likewise, during a period of cyclically increasing 
vulnerabilities, advanced approaches institutions might react to an 
increase in the CCyB by tightening lending standards, otherwise 
reducing their risk exposure, augmenting their capital, or some 
combination of those actions. They may choose to raise capital by 
taking actions that would increase net income, reducing capital 
distributions through share repurchases or dividends, or issuing new 
equity. In this regard, an increase in the CCyB would not prevent 
advanced approaches institutions from maintaining their important 
role as credit intermediaries, but would reduce the likelihood that 
banking organizations with insufficient capital would foster 
unsustainable credit growth or engage in imprudent risk taking. The 
specific combination of adjustments and the relative size of each 
adjustment will depend in part on the initial capital positions of 
advanced approaches institutions, the cost of debt and equity 
financing, and the earnings opportunities presented by the economic 
situation at the time.\7\
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    \7\ For estimates of the size of certain adjustments, see Samuel 
G. Hanson, Anil K. Kashyap, and Jeremy C. Stein (2011), ``A 
Macroprudential Approach to Financial Regulation,'' Journal of 
Economic Perspectives 25(1), pp. 3-28; Skander J. Van den Heuvel 
(2008), ``The Welfare Cost of Bank Capital Requirements.'' Journal 
of Monetary Economics 55, pp. 298-320.
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4. The Framework for Setting the U.S. CCyB

    The Board regularly monitors and assesses threats to financial 
stability by synthesizing information from a comprehensive set of 
financial-sector and macroeconomic indicators, supervisory 
information, surveys, and other interactions with market 
participants.\8\ In forming its view about the appropriate size of 
the U.S. CCyB, the Board will consider a number of financial-system 
vulnerabilities, including but not limited to, asset valuation 
pressures and risk appetite, leverage in the nonfinancial sector, 
leverage in the financial sector, and maturity and liquidity 
transformation in the financial sector. The decision will reflect 
the implications of the assessment of overall financial-system 
vulnerabilities as well as any concerns related to one or more 
classes of vulnerabilities. The specific combination of 
vulnerabilities is important because an adverse shock to one class 
of vulnerabilities could be more likely than another to exacerbate 
existing pressures in other parts of the economy or financial 
system.
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    \8\ Tobias Adrian, Daniel Covitz, and Nellie Liang (2014), 
``Financial Stability Monitoring.'' Finance and Economics Discussion 
Series 2013-021. Washington: Board of Governors of the Federal 
Reserve System, https://www.federalreserve.gov/pubs/feds/2013/201321/201321pap.pdf.
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    The Board intends to monitor a wide range of financial and 
macroeconomic quantitative indicators including, but not limited to, 
measures of relative credit and liquidity expansion or contraction, 
a variety of asset prices, funding spreads, credit condition 
surveys, indices based on credit default swap spreads, options 
implied volatility, and measures of systemic risk.\9\ In addition, 
empirical models that translate a manageable set of quantitative 
indicators of financial and economic performance into potential 
settings for the CCyB, when used as part of a comprehensive 
judgmental assessment of all available information, can be a useful 
input to the Board's deliberations. Such models may include those 
that rely on small sets of indicators--such as the credit-to-GDP 
ratio, its growth rate, and combinations of the credit-to-GDP ratio 
with trends in the prices of residential and commercial real 
estate--which some academic research has shown to be useful in 
identifying periods of financial excess followed by a period of 
crisis on a cross-country basis.\10\ Such models may also include 
those that consider larger sets of indicators, which have the 
advantage of representing conditions in all key sectors of the 
economy, especially those specific to risk-taking, performance, and 
the financial condition of large banks.\11\
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    \9\ See 12 CFR 217.11(b)(2)(iv).
    \10\ See, e.g., Jorda, Oscar, Moritz Schularick and Alan Taylor, 
2012. ``When Credit Bites Back: Leverage, Business Cycles and 
Crises,'' Working Papers 1224, University of California, Davis, 
Department of Economics, and Drehmann, Mathias, Claudio Borio, and 
Kostas Tsatsaronis, 2012. ``Characterizing the financial cycle: 
don't lose sight of the medium term!'' BIS Working Papers 380, Bank 
for International Settlements. Jorda, Oscar, Moritz Schularick and 
Alan Taylor, 2015. ``Leveraged Bubbles,'' Center for Economic Policy 
Research Discussion Paper No. DP10781. BCBS (2010), ``Guidance for 
national authorities operating the countercyclical capital buffer,'' 
BIS.
    \11\ See, e.g., Aikman, David, Michael T. Kiley, Seung Jung Lee, 
Michael G. Palumbo, and Missaka N. Warusawitharana (2015), ``Mapping 
Heat in the U.S. Financial System,'' Finance and Economics 
Discussion Series 2015-059. Washington: Board of Governors of the 
Federal Reserve System, https://dx.doi.org/10.17016/FEDS.2015.059 
(providing an example of the range of indicators used and type of 
analysis possible).
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    However, no single indictor or fixed set of indicators can 
adequately capture all the key vulnerabilities in the U.S. economy 
and financial system. Moreover, adjustments in the CCyB that were 
tightly linked to a specific model or set of models would be 
imprecise due to the relatively short period that some indicators 
are available, the limited number of past crises against which the 
models can be calibrated, and limited experience with the CCyB as a 
macroprudential tool. As a result, the types of indicators and 
models considered in assessments of the appropriate level of the 
CCyB are likely to change over time based on advances in research 
and the experience of the Board with this new macroprudential tool.
    The Board will determine the appropriate level of the CCyB for 
U.S.-based credit exposures based on its analysis of the above 
factors. Generally, a zero percent U.S. CCyB amount would reflect an 
assessment that U.S. economic and financial conditions are broadly 
consistent with a financial system in which levels of system-wide 
vulnerabilities are not somewhat above normal. The Board could 
increase the CCyB as vulnerabilities build, and a 2.5 percent CCyB 
amount for U.S.-based credit exposures would reflect an assessment 
that the U.S. financial sector is experiencing a period of 
significantly elevated or rapidly increasing system-wide 
vulnerabilities. Importantly, as a macroprudential policy tool, the 
CCyB will be activated and deactivated based on broad developments 
and trends in the U.S. financial system, rather than the activities 
of any individual banking organization.
    Similarly, the Board would remove or reduce the CCyB when the 
conditions that led to its activation abate or lessen, rather than 
leaving the nonzero level of the buffer in place over periods when 
financial and

[[Page 5666]]

economic developments suggest the absence of notable risks to 
financial stability. Indeed, for it to be most effective, the CCyB 
should be deactivated or reduced in a timely manner. This would 
reduce the likelihood that advanced approaches institutions would 
significantly pare their risk-weighted assets in order to maintain 
their capital ratios during a downturn.
    The pace and magnitude of changes in the CCyB will depend 
importantly on the underlying conditions in the financial sector and 
the economy as well as the desired effects of the proposed change in 
the CCyB. If vulnerabilities are rising gradually, then incremental 
increases in the level of the CCyB may be appropriate. Incremental 
increases would allow banks to augment their capital primarily 
through retained earnings and allow policymakers additional time to 
assess the effects of the policy change before making subsequent 
adjustments. However, if vulnerabilities in the financial system are 
building rapidly, then larger or more frequent adjustments may be 
necessary to increase loss-absorbing capacity sooner and potentially 
to mitigate the rise in vulnerabilities.
    The Board will also consider whether the CCyB is the most 
appropriate of its available policy instruments to address the 
financial-system vulnerabilities highlighted by the framework's 
judgmental assessments and empirical models. The CCyB primarily is 
intended to address cyclical vulnerabilities, rather than structural 
vulnerabilities that do not vary significantly over time. Structural 
vulnerabilities are better addressed though targeted reforms or 
permanent increases in financial system resilience. Two key factors 
for the Board to consider are whether advanced approaches 
institutions are exposed--either directly or indirectly--to the 
vulnerabilities identified in the comprehensive judgmental 
assessment or by the quantitative indicators that suggest activation 
of the CCyB and whether advanced approaches institutions are 
contributing--either directly or indirectly--to these highlighted 
vulnerabilities.
    The Board, in setting the CCyB for advanced approaches 
institutions that it supervises, plans to consult with the OCC and 
FDIC on their analyses of financial-system vulnerabilities and on 
the extent to which banking organizations are either exposed to or 
contributing to these vulnerabilities.

5. Communication of the U.S. CCyB With the Public

    The Board expects to consider at least once per year the 
applicable level of the U.S. CCyB. The Board will review financial 
conditions regularly throughout the year and may adjust the CCyB 
more frequently as a result of those monitoring activities.
    Further, the Board will continue to communicate with the public 
in other formats regarding its assessment of U.S. financial 
stability, including financial-system vulnerabilities. For example, 
the Board's biannual Monetary Policy Report to Congress, usually 
published in February and July, will continue to contain a section 
that reports on developments pertaining to the stability of the U.S. 
financial system.\12\ That portion of the report will be an 
important vehicle for updating the public on how the Board's current 
assessment of financial-system vulnerabilities bears on the setting 
of the CCyB.
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    \12\ For the most recent discussion in this format, see box 
titled ``Developments Related to Financial Stability'' in Board of 
Governors of the Federal Reserve System, Monetary Policy Report to 
Congress, July 2015, pp. 24-25.
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6. Monitoring of the Effects of the U.S. CCyB

    The effects of the U.S. CCyB ultimately will depend on the level 
at which it is set, the size and nature of any adjustments in the 
level, and the timeliness with which it is increased or decreased. 
The extent to which the CCyB may affect vulnerabilities in the 
broader financial system depends upon a complex set of interactions 
between required capital levels at the largest banking organizations 
and the economy and financial markets. In addition to the direct 
effects, the secondary economic effects could be amplified if 
financial markets extract a signal from the announcement of a change 
in the CCyB about subsequent actions that might be taken by the 
Board. Moreover, financial market participants might react by 
updating their expectations about future asset prices in specific 
markets or broader economic activity based on the concerns expressed 
by the regulators in communications announcing a policy change.
    The Board will monitor and analyze adjustments by banking 
organizations and other financial institutions to the CCyB. Factors 
that will be considered include (but are not limited to) the types 
of adjustments that affected banking organizations might undertake. 
For example, it will be useful to monitor whether a change in the 
CCyB leads to observed changes in risk-based capital ratios at 
advanced approaches institutions, as well as whether those 
adjustments are achieved passively through retained earnings, or 
actively through changes in capital distributions or in risk-
weighted assets. Other factors to be monitored include the extent to 
which loan growth and spreads on loans issued by affected banking 
organizations change relative to loan growth and loan spreads at 
banking organizations that are not subject to the buffer. Another 
key consideration in setting the CCyB and other macroprudential 
tools is the extent to which the adjustments by advanced approaches 
institutions to higher capital buffers lead to migration of credit 
market activity outside of those banking organizations, especially 
to the nonbank financial sector. Depending on the amount of 
migration and which institutions are affected, those adjustments 
could cause the Board to favor either a higher or a lower value of 
the CCyB.
    The Board will also monitor information regarding the levels of 
and changes in the CCyB in other countries. The Basel Committee on 
Banking Supervision is expected to maintain this information for 
member countries in a publically available form on its Web site.\13\ 
Using that data in conjunction with supervisory and publicly 
available datasets, Board staff will be able to draw not only upon 
the experience of the United States but also that of other countries 
to refine estimates of the effects of changes in the CCyB.
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    \13\ BIS, Countercyclical capital buffer (CCyB), www.bis.org/bcbs/ccyb/index.htm.

    By order of the Board of Governors of the Federal Reserve 
System, December 21, 2015.
Robert deV. Frierson,
Secretary of the Board.

[FR Doc. 2016-01934 Filed 2-2-16; 8:45 am]
 BILLING CODE P