WASHINGTON — While banks have made significant progress raising capital levels since the Great Recession, increased focus on capital regulation has brought with it more complexity, making it harder for investors and the public to understand banks' financial conditions, Boston Federal Reserve Bank President Eric Rosengren said Monday.
"When the regulatory environment becomes more difficult for investors to understand, the efficacy of market discipline can erode," he said in remarks prepared for a speech at a Bank for International Settlements event in Abu Dhabi.
"Market discipline requires at very least that investors and the public can clearly understand the financial condition of firms," he said. "As a result, too much complexity may be costly."
Rosengren, who is a voting member of the Federal Reserve's policymaking Federal Open Market Committee, did not discuss monetary policy or current economic conditions in his prepared remarks.
Instead, he focused on banking regulations, in particularly the complexity that comes with additional capital rules. He praised banks for significantly raising capital levels since 2008, and the international regulators he was speaking to for collaborating on regulatory efforts.
Rosengren said the "increased attention" on capital issues "has resulted in a significant increase in the quantity and quality of capital that most U.S. banking organizations have on hand to withstand possible future shocks."
But the higher capital levels - and the increased requirements - leads to much more complexity, Rosengren said. Financial institutions, particularly the large international banks, are trying to comply with an evolving set of regulations, including reporting as many as all three of the Basel capital requirements.
Domestic banks, for example, report Basel I, which is the current required level in the U.S.; Basel II because it is the widely adopted level required around the world; and Basel III, even though it does not fully go into effect for another five years.
Rosengren argued "at least some of the complexity could, and probably should, be reduced" in the interest of market discipline.
"This complexity makes evaluations of banks' financial conditions challenging and makes it more difficult to make comparisons across banking organizations," he said.
Also making regulation reporting and monitoring more complex is the numerous ways capital and liquidity is measured, often based on the risk associated with certain assets.
Despite calling for less complexity, Rosengren pointed out that both risk-based capital requirements and leverage-based capital requirements are likely to continue to be needed.
Some of the largest global banking organizations have significant broker-dealer operations, and are highly dependent on wholesale funding, "ushering in the risk that their short-term financing might dry up with a financial shock."
These differences in business lines "highlight why a risk-based capital requirement alone is not sufficient," Rosengren said.
"Many of the largest banking organizations are less reliant on deposits and more reliant on wholesale funding as a result of their large broker-dealer operations. For these organizations, the primary risk issue is the riskiness of their funding model."
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