As the U.S. debt market continues to expand to $29 trillion, American regulators are brewing a major regulatory adjustment. They plan to lower the capital buffer requirements for large banks, including JPMorgan Chase, Goldman Sachs, and Morgan Stanley, to ease these financial giants' trading restrictions in the Treasury market.
According to insiders, the Federal Reserve, Federal Deposit Insurance Corporation (FDIC), and Office of the Comptroller of the Currency (OCC) are focusing on a reform proposal for the "enhanced supplementary leverage ratio" (eSLR). This regulation is viewed as an essential tool for preventing systemic risk but is also criticized for suppressing banks’ activity in the U.S. Treasury market under the current market structure.
Core Adjustment: eSLR Standard Could Drop from 5% to 3.5%-4.5%
Currently, for bank holding companies, the minimum eSLR capital requirement is 5%; their subsidiary banks must maintain at least a 6% eSLR ratio. According to insiders involved in the discussions, the new proposal plans to lower these requirements to a range of 3.5%-4.5%, releasing more space for capital flows.
These adjustments are still in the proposal stage, and the final plan may change in wording and scope. However, sources emphasize that regulators are attempting to balance systemic risk control with maintaining liquidity in the U.S. Treasury market.
Why Relax Regulations? Unraveling Treasury Trading
In recent years, as the Fed's interest rate hike cycle and the expansion of fiscal deficits have driven a surge in Treasury supply, the financial market has increasingly focused on banks' constrained ability to participate in Treasury trading. Especially when the current financial system faces potential liquidity risks, increasing bank involvement is seen as a critical factor in stabilizing the Treasury market.
Regulators attempted similar reforms during the Trump administration in 2018 to "localize" the global systemically important bank (G-SIB) regulatory framework. However, those reforms did not comprehensively cover the core elements of eSLR.
This adjustment is seen as a continuation of supplementary reforms aimed at avoiding the "capital cost" from suppressing banks' operational space on low-risk assets such as Treasury bonds.
Excluding Treasury Bonds Not Ruled Out, Preference for Overall Adjustment
While some market observers predict that the U.S. might consider excluding U.S. Treasuries from the eSLR calculation, informed sources indicate the proposal is more inclined toward an overall ratio reduction rather than asset class exemptions. However, the document is expected to solicit public opinion on "whether U.S. Treasuries should be excluded from the calculation."
The crucial point of this proposition is that regulators want to obtain market feedback to determine whether they can grant banks more operational flexibility without sacrificing financial stability.
Regulatory Dynamics: Fed to Officially Discuss on June 25
The Fed has announced a meeting on June 25 to review this reform proposal, but the FDIC and OCC have not yet announced their related agendas. Currently, all three major regulatory agencies have not officially made statements.
If this proposal successfully moves forward, it will significantly impact large banks' asset and liability management strategies and have profound effects on the market liquidity and yields of U.S. Treasuries.
Can Regulatory Easing Revitalize the Treasury Market?
Facing the continuously expanding fiscal deficit and Treasury stockpile, the Federal Reserve and related regulatory bodies are attempting to inject more "motivational capital" into the banking industry by fine-tuning regulatory parameters. Whether lowering capital thresholds is sufficient to incentivize banks to re-engage in the Treasury market remains to be seen, but this signal of policy shift has already attracted high attention from the financial sector. Against the backdrop of tightening global liquidity, the balance between regulatory flexibility and financial stability will become the main theme of the coming months.
