Federal Reserve Vice Chair for Supervision Bowman Previews Basel III, G-SIB Surcharge & Revised Standardized Approach Proposals

Summary

Earlier today, Federal Reserve Vice Chair for Supervision Michelle Bowman delivered a speech[1] previewing the Federal banking agencies’ (the “Agencies”) new proposals, to be released next week, to revise the U.S. regulatory capital framework to implement the final 2017 Basel III standards[2] (the “Basel III Proposal”) and revise the standardized approach to “reduce redundancy” and “remove incentives for activities to migrate out of the banking system” (the “Standardized Approach Proposal”).

Vice Chair Bowman also outlined the Federal Reserve’s proposed revisions to the capital surcharge applicable to U.S. global systemically important banks (“G-SIBs”) to “realign” the surcharge with the “international method,” reflect changes in the financial system, and account for economic growth since its establishment in 2015 (the “G-SIB Surcharge Proposal”).

The Basel III Proposal is expected to result in a “small increase in requirements for the largest banks,” particularly with respect to operational and market risk exposures, while the G-SIB Surcharge Proposal “would result in a modest decrease in the surcharge” with the effect of these two proposals taken together being to decrease capital requirements “by a small amount.” Collectively, the Federal Reserve’s capital proposals, including its proposed 2025 stress test changes,[3] would “maintain capital requirements above the 2019 rules” and are designed to serve as a “sensible recalibration reflecting the recent growth of regulatory capital requirements for the largest banks.” “Smaller banks, which are more focused on traditional lending activities, will see slightly larger reductions in capital requirements” as a consequence of the Standardized Approach Proposal. 

The Basel III and G-SIB Surcharge Proposals are revised versions of proposals released in July 2023.[4]

The Federal Reserve Board is scheduled to consider the proposals next Thursday, March 19, 2026. During Q&A following her remarks, Vice Chair Bowman indicated that the capital proposals will be subject to a 90-day comment period, and predicted that the Federal Reserve will finalize its stress testing proposals “well before the end of the year.”

In remarks[5] delivered yesterday, Federal Deposit Insurance Corporation Chairman Travis Hill noted that the Basel III Proposal would “generally implement the 2017 Basel agreement, while deviating in certain areas in which the international agreement does not work for the U.S. economy,” and concluded that it “represents a substantial improvement” over the Agencies’ July 2023 proposal.

Basel III Proposal

Scope & Approach. In contrast to the Agencies’ July 2023 proposal, the revised Basel III Proposal will feature a “single stack” approach for the “largest banks” in lieu of a “dual stack” approach to determine their minimum capital requirements. Vice Chair Bowman did not specify the categories of large banking organizations that would be subject to the Basel III Proposal. FDIC Chairman Hill referenced in his remarks that “any bank can opt in” to this framework.

Credit Risk. The Basel III Proposal is intended to “improve[] the risk sensitivity of requirements for lending activities” by: (1) recognizing “loan-to-value ratios in mortgage capital requirements” and reflecting “repayment history in retail lending”; (2) “differentiat[ing] requirements based on the credit quality of businesses”; and (3) avoiding new capital “penalties for mortgages or consumer lending” and seeking comment on the “appropriate role of private mortgage insurance.”

Operational Risk. The Basel III Proposal will include “standardized requirements for operational risk, consistent with international standards, but tailored to large U.S. banks.” In particular, activities producing fee-based revenues and expenses, such as credit cards, would be accounted for on a net basis, “rather than separately as in the Basel standard.” Proposed capital requirements for certain activities that have “historically exhibited lower levels of operational risk,” such as wealth management and custody services, will be “calibrated to reflect those differences.”

Market Risk. The Basel III Proposal will “strengthen[] capital requirements for banks' trading activities in a manner calibrated to unique U.S. capital markets” by establishing a “standardized calculation that applies consistently across firms, while reducing burden for banks with simple trading activities.” Relative to the Basel standard, the Basel III Proposal is designed to “better recognize[] diversification across positions” and will “extend[] the use of bank internal models where data are sufficiently robust.”

CVA Risk. For banks with “significant trading activity and material derivative portfolios, consistent with international standards,” the Basel III Proposal will introduce a capital requirement for credit valuation adjustment that is “focuse[d] on bilateral transactions among large financial firms” to “avoid[] unintended costs for commercial end users of derivatives including farmers and manufacturers.”

Stress Testing Overlaps. Acknowledging that “overlaps between the stress test and the risk-based framework can produce excessive requirements for some activities,” Vice Chair Bowman said the Federal Reserve was “mindful of these overlaps and evaluated the combined effect of the requirements in [its] impact analysis” and when developing the Basel III Proposal. She also highlighted recently-proposed changes to the stress test models intended to “improve the reliability of the operational risk model and the coherence of the global market shock scenario,” which Vice Chair Bowman said would “reduce[] requirements for operational risk and trading positions.” Collectively, Vice Chair Bowman indicated that the “overall calibration of these risks should remain largely unchanged,” following the finalization of the stress testing and capital proposals, “while individual components of the framework are meaningfully improved.”

The G-SIB Surcharge Proposal

The G-SIB Surcharge Proposal is intended to “strengthen[] and modernize[]” the calibration of the surcharge by:

• revising the short-term wholesale funding component, which “represents roughly 30 percent” of the surcharge, to represent 20 percent as “originally intended”;
• updating the coefficients to “better reflect[] recent changes in the financial system” and “realign” with the “international method”;
• indexing the surcharge to “economic growth going forward”;
• requiring G-SIBs to “calculate certain systemic risk indicators as an average of their daily or monthly values, rather than the year-end value, to “reduce incentives to make year-end adjustments to balance sheets”;
• assigning “surcharges in increments of 10 basis points rather than 50 basis points”; and
• “improv[ing] the measurement of certain systemic indicators, aligning [them] with international standards.”

Collectively, these surcharge adjustments would “reduce capital requirements,” with most of the reduction coming from the Federal Reserve’s “commitment to adjust for economic growth and correct excessive requirements associated with the short-term wholesale funding component.”

The Standardized Approach Proposal

The Standardized Approach Proposal would revise the standardized approach to “align. . .with” the Basel III Proposal, “reduce redundancy, simplify where possible, achieve better calibration of requirements relative to risk, and remove incentives for activities to migrate out of the banking system.” Notably, the Standardized Approach Proposal would, among other measures:

• “address critical categories of bank lending,” including mortgage, consumer, and business lending, and “moderately reduce requirements”;
• remove “any requirement to deduct mortgage servicing assets from regulatory capital” and, instead, assign a 250% risk weight and solicit comment on the appropriate risk weight; and
• require “large banks” to include elements of accumulated other comprehensive income (AOCI) in common equity tier 1 capital, solicit comment on the “appropriate scope” of mandatory AOCI recognition, and provide for a five-year phase in for this change to “avoid a material immediate increase in capital requirements.”[6]

FDIC Chairman Hill referenced in his remarks that the proposal would include “proposed enhancements to the securitization framework and recognition of collateral,” which would be consistent across the Basel III Proposal and Standardized Approach Proposal to “further support a level regulatory playing field.”