WASHINGTON — A federal banking rule that doesn't classify municipal bonds as high-quality liquid assets needs to be reworked to ensure it won't impede critical infrastructure development, Sen. Chuck Schumer told regulators on Tuesday.
The regulators should publicly disclose their plans to modify the rule as soon as possible Schumer, D-N.Y., said in letters he sent to the same three regulators he confronted at a Senate Banking Committee meeting last week: Federal Reserve Board governor Daniel Tarullo, Federal Deposit Insurance Corp. chairman Martin Gruenberg, and Comptroller of the Currency Thomas Curry.
Muni market participants are concerned that the liquidity rule, adopted earlier this month and effective Jan. 1, will cause banks to reduce their muni holdings, thereby increasing borrowing costs for issuers while adding to volatility in the muni market. The rule requires banks to have a liquidity coverage ratio that includes holding a certain amount of HQLAs, but does not define munis as HQLAs.
"By excluding municipal bonds from being considered as high-quality liquid assets, federal regulators have run the risk of limiting the scope of financial institutions willing to take on investment-grade municipal securities," Schumer wrote.
"The United States will have an infrastructure gap of $3.6 trillion by 2020, and states and cities across the country rely on these debt issuances to maintain adequate funding to support existing infrastructure projects and finance new development," Schumer wrote. "Municipal bonds are the lifeblood of local government finance in the United States, and this rule, if not modified, threatens to stifle the job growth and investment in infrastructure that is critical to sustaining our economic recovery."
Tarullo told banking committee members at the Sept. 9 hearing that the Fed staff is at work on a proposal to allow muni bonds with characteristics similar to very liquid corporate bonds to be included as HQLAs. All three regulators told Schumer at that time that they would be open to amending the rule to include at least some munis.
Some analysts have said the market will probably take the rule in stride, but nearly all muni market participants agree that highly-rated munis should be HQLAs. Schumer wrote that these munis are treated as liquid in the market and should be given the same treatment by the rule. He closed by pressing the regulators to divulge further details about the scope of the muni inclusion proposal mentioned by Tarullo.
"I hope that your agencies will provide further public details and insight into the standards established for each of the 'liquidity characteristics' of municipal bonds that are necessary for these debt securities to qualify as HQLA," Schumer wrote.
