Federal Reserve Vice Chair for Supervision Michael Barr proposed significant changes to liquidity regulations for large U.S. banks, aimed at bolstering their resilience against future financial shocks.
While speaking at the U.S. Treasury Market Conference on Sept. 26, Barr outlined several proposed enhancements meant to ensure banks can withstand stress scenarios similar to those witnessed during a series of abrupt bank failures in 2023, which began with the collapse of Silicon Valley Bank.
“To address the lessons about liquidity learned in the spring of 2023, we are exploring targeted adjustments to our current liquidity framework,” Barr said.
Although financial institutions have already taken steps to strengthen their liquidity resilience, the regulatory adjustments under consideration by the Fed aim to further ensure that large banks adopt stronger liquidity risk-management practices going forward, the senior Fed official added.
The proposed changes include requirements for big banks to maintain a minimum pool of readily available liquidity linked to their uninsured deposits, alongside other regulatory adjustments that aim to strengthen financial stability and market resilience.
These other regulatory proposals include reducing the use of held-to-maturity assets in liquidity reserves, adjusting the rules for how quickly certain types of deposits might be withdrawn, and providing clearer guidance on how banks can use the Federal Reserve’s liquidity tools, such as the discount window and standing repo facility, in their contingency plans and stress tests.
Barr emphasized that uninsured deposits—those not covered by the Federal Deposit Insurance Corp. in the event of a bank failure—often represent cash that is critical for immediate liquidity needs, such as payroll and bill payments, making them particularly vulnerable during periods of financial stress.
“We are exploring a requirement that larger banks maintain a minimum amount of readily available liquidity with a pool of reserves and pre-positioned collateral at the discount window, based on a fraction of their uninsured deposits,” Barr said during his remarks at the Sept. 26 conference.
The collapse of Silicon Valley Bank was hastened by a run on its uninsured deposits, as large depositors withdrew funds en masse amid fears of insolvency. Lacking adequate liquidity buffers to handle this rapid outflow, Silicon Valley Bank was unable to meet withdrawal demands, leading to its downfall. Barr’s proposal aims to prevent such outcomes by ensuring that banks maintain sufficient liquidity to manage large withdrawals, which would help stabilize the institution in times of market volatility.
“It is vital that uninsured depositors have confidence that their funds will be readily available for withdrawal, if needed, and this confidence would be enhanced by a requirement that larger banks have readily available liquidity to meet requests for withdrawal of these deposits,” Barr said.
The proposal focuses on large banks, excluding smaller community banks, with a tiered approach to liquidity requirements. Under the plan, big banks would be required to pre-position collateral, such as Treasury securities, at the Fed’s discount window. This collateral would ensure that such institutions have quick access to liquidity in times of stress, especially to meet the withdrawal needs of uninsured depositors.
The requirement is intended to complement existing regulations such as the internal liquidity stress tests and the liquidity coverage ratio, which already require banks to hold liquid assets. Barr also emphasized that the Fed views the use of the discount window as a normal, acceptable tool for banks to maintain liquidity, both in regular and stressed market conditions. This appears to be a push to normalize the use of the discount window, which banks historically have been reluctant to use because of the stigma associated with it, as borrowing from the Fed is often seen as a sign of financial weakness or stress.
Barr’s speech also outlined clearer guidelines for how banks should integrate the Federal Reserve’s liquidity facilities—the discount window and the standing repo facility (SRF)—into their liquidity stress tests and contingency funding plans.
“Supervisors have a role in assessing the viability of large banks’ plans to meet stressed outflows in their stress scenarios, and we have been asked whether the discount window, the SRF, and also Federal Home Loan Bank advances can play a role in those scenarios. The answer to this question is ‘yes,’” Barr said.
He said banks must be able to demonstrate, in advance, that they are capable of using these facilities if necessary, including by conducting test transactions to ensure operational readiness.
Another part of the proposal involves limiting the reliance on held-to-maturity assets in banks’ liquidity buffers. These assets, which are not easily sold without taking losses, posed challenges for some banks during their crisis in 2023 when they struggled to convert them to cash. Barr’s plan would ensure that large banks hold more liquid assets that can be easily accessed during times of stress.
The proposal also includes revising assumptions about how quickly certain types of deposits might be withdrawn in times of crisis, reflecting the rapid deposit outflows seen during last year’s banking turmoil.
It’s unclear when the Fed plans to publish details of the regulatory overhaul proposal outlined in Barr’s speech.
Joseph Wang, chief investment officer at Monetary Macro and a former senior trader at the Federal Reserve Bank of New York’s open market trading desk, which plays a key role in the implementation of the Fed’s monetary policy, said that Barr’s proposal would boost demand for U.S. Treasurys.
“Barr is boosting demand for Treasurys by strengthening the fungibility between reserves and Treasury for banks,” he wrote in a post on social media platform X. “He will allow bank to take into account monetizing of Treasurys via discount window or standing repo facility for their liquidity tests.”
Wang’s comment that Barr’s proposal would essentially make banks’ Treasury holdings more interchangeable with reserves suggests that it could increase banks’ reliance on Treasurys as liquid assets, potentially boosting demand for them and putting downward pressure on yields, possibly resulting in lower interest payments on government debt because of reduced borrowing costs on new debt issuances.
The Epoch Times reached out to the American Bankers Association for comment on the proposal but didn’t receive a reply by publication time.
