49082 Federal Register / Vol. 80, No. 157 / Friday, August 14, 2015 / Rules and Regulations

FEDERAL RESERVE SYSTEM Governors of the Federal Reserve holding companies and nonbank System, 20th and C Streets NW., financial companies.3 12 CFR Parts 208 and 217 Washington, DC 20551. For the hearing B. Overview of the Proposed Rule [Regulations H and Q; Docket No. R–1505] impaired only, Telecommunications Device for the Deaf (TDD) users may RIN 7100 AE–26 In December 2014, the Board invited contact (202) 263–4869. public comment on a notice of proposed Regulatory Capital Rules: SUPPLEMENTARY INFORMATION: rulemaking (proposal) to identify global Implementation of Risk-Based Capital systemically important bank holding Table of Contents Surcharges for Global Systemically companies (GSIBs) and impose a risk- Important Bank Holding Companies I. Introduction based capital surcharge on those A. The Dodd-Frank Act institutions (GSIB surcharge).4 The AGENCY: Board of Governors of the B. Overview of the Proposed Rule proposal established a methodology to Federal Reserve System. C. Integrated Set of Prudential Standards identify whether a U.S. top-tier bank ACTION: Final rule. D. Interaction with the Global Framework holding company with total II. Description of the Final Rule consolidated assets of $50 billion or SUMMARY: The Board of Governors of the A. Identification of a GSIB Federal Reserve System is adopting a more is a GSIB. The proposed B. Source of Systemic Indicator methodology was based on five broad final rule that establishes risk-based Information capital surcharges for the largest, most categories that are correlated with C. Computing the Applicable GSIB systemic importance—size, interconnected U.S.-based bank holding Surcharge companies pursuant to section 165 of interconnectedness, cross-jurisdictional D. Augmentation of the Capital activity, substitutability, and the Dodd-Frank Wall Street Reform and Conservation Buffer complexity. A bank holding company Consumer Protection Act. The final rule E. Implementation and Timing requires a U.S. top-tier bank holding III. Indicators of Global Systemic Risk would determine a score in each company that is an advanced A. Size category based on its firm-specific approaches institution to calculate a B. Interconnectedness systemic indicators within each measure of its systemic importance. A C. Substitutability category relative to aggregate global bank holding company whose measure D. Complexity indicator amounts across other large, of systemic importance exceeds a E. Cross-jurisdictional Activity global banking organizations. Each defined threshold would be identified F. Use of Short-term Wholesale Funding category would be given a 20 percent as a global systemically important bank IV. Amendments to the FR Y–15 weighting in the calculation of a firm’s holding company and would be subject V. Modifications to Related Rules aggregate systemic indicator score to a risk-based capital surcharge (GSIB VI. Regulatory Analysis (together, the method 1 score). A bank surcharge). The GSIB surcharge is A. Paperwork Reduction Act holding company whose method 1 score B. Regulatory Flexibility Act Analysis phased in beginning on January 1, 2016, exceeded a defined threshold would be C. Plain Language through year-end 2018, and becomes identified as a GSIB. fully effective on January 1, 2019. The I. Introduction A firm identified as a GSIB would final rule also revises the terminology then calculate its GSIB surcharge under A. The Dodd-Frank Act used to identify the bank holding two methods and would be subject to companies subject to the enhanced Section 165 of the Dodd-Frank Wall the higher of the two. The first method supplementary leverage ratio standards Street Reform and Consumer Protection was the same methodology for to ensure consistency in the scope of Act (Dodd-Frank Act) directs the Board identifying a bank holding company as application between the enhanced to establish enhanced prudential a GSIB (method 1). The second method supplementary leverage ratio standards standards for bank holding companies was based on the same systemic and the GSIB surcharge framework. with $50 billion or more in total indicator scores used in method 1, DATES: The final rule is effective consolidated assets and for nonbank except that the substitutability score December 1, 2015, except that financial companies that the Financial was replaced by a measure of the firm’s amendatory instructions 2, 3, 6, 8, and Stability Oversight Council (Council) use of short-term wholesale funding 10 amending 12 CFR 208.41, 208.43, has designated for supervision by the (method 2).5 Method 2 surcharges were 217.1, 217.2, and 217.11 are effective Board (nonbank financial companies calibrated to better address the risks January 1, 2018. supervised by the Board).1 These posed by these firms to U.S. financial FOR FURTHER INFORMATION CONTACT: standards must include risk-based stability. The GSIB surcharge was added Anna Lee Hewko, Deputy Associate capital requirements as well as other to a GSIB’s capital conservation buffer Director, (202) 530–6260, Constance M. enumerated standards. They must be for purposes of the regulatory capital Horsley, Assistant Director, (202) 452– more stringent than the standards rule.6 It would have been phased in 5239, Juan C. Climent, Manager, (202) applicable to other bank holding beginning on January 1, 2016, through 872–7526, Jordan Bleicher, Senior companies and to nonbank financial Supervisory Financial Analyst, (202) companies that do not present similar 3 See 12 U.S.C. 5365(a)(1)(B). Under section 973–6123, Holly Kirkpatrick Taylor, risks to U.S. financial stability.2 These 165(a)(1)(B) of the Dodd-Frank Act, the enhanced Supervisory Financial Analyst, (202) standards must also increase in prudential standards must increase in stringency based on the considerations listed in section 452–2796, or Mark Savignac, Senior stringency based on several factors, 165(b)(3). Financial Analyst, (202) 475–7606, including the size and risk 4 79 FR 75473 (December 18, 2014). Division of Banking Supervision and characteristics of a company subject to 5 The fact that method 2 likely produced a higher Regulation; or Laurie Schaffer, Associate the rule, and the Board must take into surcharge than method 1 derives from the General Counsel, (202) 452–2272, account the differences among bank difference in the calibration of these two methods. To allow comparability between scores produced Christine Graham, Counsel, (202) 452– under method 1 and method 2, method 2 raw scores 3005, or Mark Buresh, Attorney, (202) 1 See 12 U.S.C. 5365. were doubled. 452–5270, Legal Division. Board of 2 See 12 U.S.C. 5365(a)(1)(A). 6 See 12 CFR 217.11.

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year-end 2018, and become fully Board has adopted under section 165 of to capital requirements, section 165 of effective on January 1, 2019. the Dodd-Frank Act will result in a the Dodd-Frank Act directs the Board to The Board received 21 public more stringent regulatory regime is adopt enhanced risk-based capital comments on the proposed rule from designed to mitigate risks to U.S. standards that mitigate the systemic risk banking organizations, trade financial stability, and include measures of these firms. For reasons discussed associations, public interest advocacy that increase the resiliency of these below, adopting a GSIB surcharge groups, and private individuals. Some companies and reduce the impact on addresses the systemic risk of GSIBs by commenters also met with Board staff to U.S. financial stability were these firms making these firms more resilient. discuss the proposal.7 While some to fail. The final rule works to mitigate the D. Interaction with the Global commenters expressed support for Framework higher capital standards for the largest potential risk that the material financial and most complex U.S. banking distress or failure of a GSIB could pose The final rule is aligned with global organizations, several commenters to U.S. financial stability by increasing efforts to address the financial stability criticized specific aspects of the the stringency of capital standards for risks posed by the largest, most proposal. For instance, several GSIBs, thereby increasing the resiliency interconnected financial institutions. In commenters expressed concern of these firms. The final rule takes into 2011, the Basel Committee on Banking regarding the calibration of the GSIB consideration and reflects the nature, Supervision (BCBS) adopted a surcharges. Other commenters argued scope, size, scale, concentration, framework to identify global that the proposed calculation interconnectedness, and mix of the systemically important banking methodology would limit the ability of activities of each company, as directed organizations and assess their systemic 15 a firm to reduce its GSIB surcharge by by section 165 of the Dodd-Frank Act.12 importance (BCBS framework). The reducing its systemic risk profile. In These factors are reflected in the BCBS applies its methodology and addition, several commenters provided method 1 and method 2 scores, which releases a list of global systemically use quantitative metrics to measure the important banking organizations on an views on the proposed measure of short- 16 term wholesale funding. impact of these factors on a firm’s annual basis. The BCBS plans to review its As discussed in this preamble, the systemic impact. GSIB surcharges are framework, including its indicator- final rule adopts the proposed rule, with established using these scores, and based measurement approach and the several adjustments that respond to GSIBs with higher scores are subject to threshold scores for identifying global commenters’ concerns. The final rule higher GSIB surcharges. systemically important banks, every maintains the proposed approach for In addition to the factors listed above, three years in order to capture calculating the method 1 score that is section 165 of the Dodd-Frank Act also developments in the banking sector and derived from an annual aggregation of requires the Board to consider the importance of the company as a source any progress in methods and the 75 largest U.S. and foreign banking of credit for households; businesses; approaches for measuring systemic organizations (and any other banking state governments; and low-income, importance.17 The result of the first organizations included in the sample minority, or underserved communities; three-year review is scheduled to be total for that year), but improves the and as a source of liquidity for the U.S. published by November 2017.18 predictability of the method 2 score by financial system. The GSIB surcharge fixing the aggregate measure of U.S. and II. Description of the Final Rule increases the resiliency of the largest foreign banking organizations. The final U.S. bank holding companies, enabling The following discussion provides a rule also adjusts elements of the short- them to continue serving as financial summary of the proposal, the comments term wholesale funding calculation in intermediaries for the U.S. financial received, and the Board’s responses to method 2 in light of commenters’ system and as sources of credit to those comments, including concerns. In addition, the preamble households, businesses, state modifications made in the final rule. further clarifies the calibration governments, and low-income, The discussion begins with the methodology, and the Board is releasing minority, or underserved communities proposed methodology to identify bank a white paper contemporaneously with during times of stress. holding companies that are GSIBs. It the final rule that sets forth a detailed Section 165 of the Dodd-Frank Act then describes the two methods used to explanation of the calibration also directs the Board to consider the calculate the GSIB surcharge, the methodology. extent to which the company is already justification for using short-term C. Integrated Set of Prudential subject to supervision.13 The final rule wholesale funding in method 2, and the Standards applies enhanced capital standards at justification for the GSIB calibration. the consolidated bank holding company Next, it provides detail on the role of the The GSIB surcharge adopted in the GSIB surcharge in the regulatory capital final rule is one of several enhanced level, and does not directly apply any standards to functionally regulated prudential standards that the Board has 15 subsidiaries. The Board consulted with See ‘‘Global systemically important banks: implemented under section 165 of the Assessment methodology and the additional loss Dodd-Frank Act. Other enhanced the Council, which includes the primary absorbency requirement,’’ available at http:// standards include the resolution plan regulators of the functionally regulated www.bis.org/publ/bcbs207.htm. In July 2013, the subsidiaries of bank holding companies, BCBS published a revised BCBS document entitled, rule,8 the capital plan rule,9 the stress regarding the final rule.14 While bank ‘‘Global systemically important banks: Updated test rules,10 and the enhanced assessment methodology and the higher loss holding companies are already subject prudential standard rules.11 The absorbency requirement,’’ which provides certain integrated set of standards that the revisions and clarifications to the initial framework 12 See 12 U.S.C. 5365(b)(3). (Revised BCBS Document). The document is 13 The Board is directed to take into consideration available at http://www.bis.org/publ/bcbs255.htm. 7 Summaries of these meetings are available on the extent to which a company is subject to 16 See http://www.bis.org/bcbs/gsib/gsibs_as_of_ the Board’s public Web site. supervision by the Federal banking agencies, the 2014.htm. 8 12 CFR part 243. Securities and Exchange Commission, the 17 See paragraph 39 of the Revised BCBS 9 12 CFR 225.8. Commodity Futures Trading Commission, or the Document. 10 12 CFR part 252. state insurance regulators. 18 See paragraph 62 of the Revised BCBS 11 12 CFR part 252. 14 See 12 U.S.C. 5365(b)(4). Document.

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framework and its implementation and requested comment on whether it would the Board intends to assess thoroughly timing. Last, it describes the categories be appropriate to apply a GSIB the business model, capital structure, that are used to measure systemic surcharge to such companies. and risk profile of the designated importance. Commenters argued that the proposed company to determine how enhanced framework would not be appropriate for A. Identification of a GSIB prudential standards should apply and, U.S.-based insurance companies if appropriate, would tailor application 1. Scope of Application because it did not take into account the of the standards by order or regulation The proposal would have required a inherent differences between the to that nonbank financial company or to U.S.-based top-tier bank holding banking and insurance industries or a category of nonbank financial company with total consolidated assets accurately capture systemic risk in the companies. In evaluating whether of $50 billion or more to compute insurance sector. Commenters additional policy measures may be annually its method 1 score to contended that section 165 of the Dodd- appropriate for such firms, the Board determine whether it is a GSIB.19 The Frank Act requires that capital intends to consider comments received Board has decided to tailor the final rule standards for nonbank financial on the proposal. and apply this annual calculation companies supervised by the Board be 2. Methodology To Identify a Bank requirement only to U.S.-based top-tier tailored to their specific business bank holding companies that qualify as models and argued that Congress Holding Company as a GSIB advanced approaches Board-regulated reiterated its intent that capital a. General Methodology institutions (those with $250 billion or standards be tailored through the more in consolidated total assets or $10 passage of the Insurance Capital To calculate its method 1 score under billion or more in consolidated total on- Standards Clarification Act of 2014.21 the proposal, a GSIB would have used balance-sheet foreign exposures).20 This They also argued that applying the GSIB five broad categories that are correlated revised approach reflects the view that framework to insurers would be with systemic importance—size, firms that do not meet the definition of inconsistent with international efforts to interconnectedness, cross-jurisdictional an advanced approaches bank holding develop insurance-specific prudential activity, substitutability, and company are less likely to pose systemic standards. complexity. Each of the categories risk to U.S. financial stability than firms Consistent with the proposal, the final received a 20 percent weighting in the that meet the advanced approaches rule does not apply the GSIB framework calculation of a firm’s method 1 score. threshold. to nonbank financial companies The proposal identified 12 systemic The proposal did not apply to supervised by the Board. Following indicators that measure the firm’s nonbank financial companies designation of a nonbank financial profile within these five categories, as supervised by the Board, but the Board company for supervision by the Board, set forth in Table 1 below.

TABLE 1—PROPOSED SYSTEMIC INDICATORS

Indicator Category Systemic indicator weight (%)

Size ...... Total exposures ...... 20 Interconnectedness ...... Intra-financial system assets ...... 6 .67 Intra-financial system liabilities ...... 6.67 Securities outstanding ...... 6.67 Substitutability ...... Payments activity ...... 6 .67 Assets under custody ...... 6.67 Underwritten transactions in debt and equity markets ...... 6.67 Complexity ...... Notional amount of over-the-counter (OTC) derivatives ...... 6 .67 Trading and available-for-sale (AFS) securities ...... 6 .67 Level 3 assets ...... 6 .67 Cross-jurisdictional activity ...... Cross-jurisdictional claims ...... 10 Cross-jurisdictional liabilities ...... 10 Total for 12 indicators across five categories: ...... 100

A bank holding company would have company would then sum the weighted a clear separation in systemic risk calculated a score for each systemic values for the 12 systemic indicators to profiles between the eight U.S. top-tier indicator by dividing its systemic determine its method 1 score; however, bank holding companies that would be indicator value by an aggregate global the value of the substitutability identified as GSIBs under the proposed measure for that indicator. The resulting indicator scores would be capped at methodology and other bank holding value for each systemic indicator would 100.22 A bank holding company would companies. Using the method 1 scores then have been multiplied by the have been identified as a GSIB if its as a measure of systemic importance, prescribed weighting indicated in Table method 1 score exceeded 130. there is a large drop-off between the 1 above, and by 10,000 to reflect the According to the Board’s analysis eighth-highest score (146) and the ninth- result in basis points. A bank holding across many potential metrics, there is highest score (51).23 Drawing the cut-off

19 The rule would not apply to a bank holding 22 Scores would be rounded to the nearest basis 23 These estimated scores may not reflect the company that is either a consolidated subsidiary of point according to standard rounding rules for the actual scores of a given firm, and they will change another bank holding company or a consolidated purposes of assigning levels. That is, fractional over time as each firm’s systemic footprint grows subsidiary of a foreign banking organization. amounts between zero and one-half would be or shrinks. Unless otherwise specified in this 20 12 CFR 217.100. rounded down to zero, while fractional amounts at 21 See Public Law, 128 Stat. 3017 (2014). or above one-half would be rounded to one.

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line within this target range is indicators of the aggregate amounts. firms, a given firm would be able to take reasonable because firms with scores at Thus, it is described herein as the actions to reduce its GSIB surcharge or below 51 were much closer in size ‘‘relative approach.’’ The aggregate even if other firms were taking similar and complexity to financial firms that global indicator amounts were actions. had previously been resolved in an converted from euros to U.S. dollars The final rule retains the relative orderly fashion than they were to the using the single day conversion rate approach for method 1, but adopts a largest financial firms, which had scores provided by the BCBS.24 The fixed approach for method 2, as between three and nine times as high conversion rate was based on the described further below. As a result, a and are significantly larger and more prevailing exchange rate between euros firm will be identified as a GSIB and complex. The final rule sets the cut-off and U.S. dollars on December 31 of the will be subject to a floor on its GSIB for identifying GSIBs at 130 in order to applicable year. surcharge using the relative approach. align the cut-off with international Several commenters argued that the The relative measure is appropriate for standards and facilitate comparability relative approach would limit the ability these purposes because it is less across jurisdictions. of a firm to reduce its GSIB surcharge by sensitive to changes in broader Several commenters expressed reducing its systemic risk profile economic conditions. The relative support for the systemic indicators used because its systemic indicator scores measure also promotes comparability in the proposed method 1. For instance, would be measured relative to the across jurisdictions implementing the one commenter suggested that the Board systemic risk profile of other global BCBS framework. The fixed measure is use the systemic indicator approach banking organizations. If a banking appropriate for method 2, as it is more more broadly in determining the scope organization reduced the value of a sensitive to an individual firm’s of application of prudential regulation given indicator by the same percentage systemic risk profile, independent of its (as opposed to simple asset- or activity- as other banking organizations included global peers. A bank holding company based thresholds). However, another in the aggregate global indicator, the would better predict its potential future commenter argued that the proposed banking organization’s systemic systemic indicator scores under a fixed method did not appear to be based on indicator scores would not be affected. approach, which would permit the firm empirical analysis, and questioned the Commenters suggested that the to identify actions it may be able to take equal weight given to each category. aggregate global indicator amounts be to reduce its GSIB surcharge. As the Another commenter argued that the replaced with an empirically-supported method 2 surcharge is likely to be the proposed weighting for ‘‘size’’ overstates absolute dollar amount or other fixed applicable surcharge, it better enables a the importance of the category because approach to ensure that reductions in firm to manage its risk profile. other indicators are strongly correlated indicators result in reductions in the Scores calculated under the fixed with size. systemic indicator scores. Similarly, approach could be influenced by factors The final rule adopts the proposed several commenters suggested that the unrelated to systemic risk such as weights for method 1. The equal exchange rate used for converting general economic growth. Method 2 weighting of these factors reflects the aggregate global indicator amounts to does not include an automatic fact that each of the factors contributes U.S. dollars could overstate the systemic mechanism to adjust for such potential to the effect the failure of a firm will importance of U.S. GSIBs when the U.S. effects in order to avoid unintended have on financial stability and the dollar is strong, despite having a very consequences.25 Under the final rule, particular score a firm receives will limited relationship or relevance to the scores depend on a range of different depend on its unique circumstances systemic importance. To moderate this indicator variables, each of which relative to the group of firms as a whole. effect, commenters suggested replacing measures a different aspect of systemic The Board intends to reassess the the level of the exchange rate measured risk that exhibits its own specific regime at regular intervals to ensure that at a single point in time with a five-year behavior. It is unlikely that any simple equal weighting remains appropriate. rolling average exchange rate. and mechanical method for deflating the score can control for background b. Relative Nature of the Aggregate Commenters also suggested that this movements in these indicators Global Indicator Amount change be discussed at the BCBS. Under the relative approach, any unrelated to systemic risk without The proposal measured a bank changes in a bank holding company’s affecting the resulting score’s ability to holding company’s systemic indicator systemic indicator scores would have measure each of these different aspects score in proportion to the corresponding been driven by the bank holding of systemic risk. The Board will aggregate global indicator amount, company’s systemic footprint relative to periodically reevaluate the framework to defined as the annual dollar figure other global banking organizations and ensure that factors unrelated to systemic published by the Board that represents would have been less sensitive to risk do not have an unintended effect on the sum of the systemic indicator scores background macroeconomic conditions, a bank holding company’s systemic of the 75 largest U.S. and foreign such as GDP growth. On the other hand, indicator scores. banking organizations (as measured by using a fixed approach would enable a One commenter noted that it was the BCBS) and any other banking GSIB to predict its potential future unclear how the objective of measuring organization that the BCBS includes in systemic indicator scores, better the risk that a U.S. banking organization its sample total for that year. Because facilitating its ability to engage in poses to the stability of the U.S. the proposed aggregate global indicator capital planning. A fixed approach amounts were calculated on a yearly would also provide more certainty 25 For example, under a fixed approach scores basis, a firm’s scores would have could potentially increase over time as a result of regarding the actions that the GSIB may general economic growth as the economy expands. reflected yearly changes to the systemic be able to take to reduce its GSIB One way to address this effect could be to deflate surcharge. Because the score would not scores by the rate of economic growth. However, preamble, estimated scores for method 1 were be affected by the aggregate level of such an approach could have the unintended produced using indicator data reported by firms on consequence that scores would increase the FR Y–15 as of December 31, 2014, and global systemic indicators of other global procyclically in the event of an economic aggregate denominators reported by the Basel contraction, thereby potentially raising capital Committee on Banking Supervision as of December 24 See paragraph 18 of the Revised BCBS surcharges in a way that could further exacerbate 31, 2013. Document. the economic downturn.

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financial system would be organizations on which the aggregate Commenters also asked how accomplished by calculating its global indicator amounts are based restatements of data, if necessary, would percentage of the aggregate global includes both U.S. and foreign banking flow into the denominator used to indicator amounts. organizations. As noted above, calculate a firm’s systemic risk score. The underlying assumption of this information from U.S. banking Commenters recommended that the share-based approach is that the failure organizations is collected on the FR Y– Board delay finalizing the proposal until of a U.S. banking organization that 15. Foreign jurisdictions collect the method for calculating the aggregate makes up a significant proportion of the information in connection with the global indicator amounts was clear and aggregate global indicator amounts GSIB surcharge framework developed accessible to the public, and requested under the systemic indicators would by the BCBS that parallels the that the Board publish analysis on how lead to a significant disruption of the information collected on the FR Y–15. instructions from other jurisdictions U.S. financial system, as well as the The aggregate global indicator amounts compares to U.S. instructions and that global financial system. are denominated in euros and compiled the Board make adjustments to U.S. and published by the BCBS on an rules if necessary. B. Source of Systemic Indicator annual basis along with foreign Use of global data in calculating the Information exchange rates. GSIB surcharge is appropriate. The Under the proposal, to determine Some commenters suggested that the proposal explained how the aggregate whether it is a GSIB, a bank holding proposed aggregate global indicator global indicator amounts released by the company identified the values for each amounts (the denominator of the BCBS are calculated, including a table systemic indicator that it reported on its systemic indicator scores) be expanded listing each systemic indicator that is most recent Banking Organization to include a broader set of financial reported by the largest global banking Systemic Risk Report (FR Y–15).The FR institutions than what was included in organizations. Moreover, the proposal Y–15 is an annual report that gathers the proposal. For instance, commenters described the population of global data on components of systemic risk suggested that the proposal expand the banking organizations that report the from large bank holding companies to global aggregate indicator amounts to data. The methodology relies on a global enable analysis of the systemic risk include additional non-GSIB U.S. data source that has been in place for a profiles of such firms.26 The FR Y–15 banking organizations, central number of years and which is collected was developed to facilitate the counterparties, and nonbank financial based on processes and procedures that implementation of the GSIB surcharge companies supervised by the Board. The are publicly available. Each year, the and also is used to analyze the systemic purpose of the GSIB surcharge is to BCBS publishes on its Web site the risk implications of proposed mergers address the systemic risks posed by the reporting form used by banking and acquisitions and to monitor, on an most systemic U.S. banking organizations included in the global ongoing basis, the systemic risk profiles organizations, and the relative score sample for the purpose of the GSIB of bank holding companies subject to reflects the types of systemic risk designation exercise, as well as detailed enhanced prudential standards under specifically posed by banking instructions to avoid differences in section 165 of the Dodd-Frank Act. All organizations. The Board continues to interpretations across jurisdictions. U.S. top-tier bank holding companies consider the systemic risk posed by Commenters also raised concerns with total consolidated assets of $50 nonbank financial companies, which regarding the quality of the global data. billion or more are required to file the may pose different risks to U.S. The BCBS has implemented data FR Y–15 on an annual basis. The final financial stability. Accordingly, the final collection standards and auditing rule relies on data collected on the FR rule incorporates the aggregate global processes to ensure the quality, consistency, and transparency of the Y–15, consistent with the proposal. indicator amounts as proposed. When systemic indicator data reported by As noted above, the proposal developing prudential standards, the banking organizations across measured each of a bank holding Board will continue to take into account jurisdictions. The BCBS reporting company’s systemic indicator scores in the specific characteristics and potential instructions include standards for proportion to the aggregate global risks posed by different types of reporting the indicator totals and indicator amount, defined as the annual financial institutions, including those of subcomponents, which require that dollar figure published by the Board nonbank financial institutions. Several commenters expressed firms have an internal process for that represents the sum of the systemic concern with the proposed use of global checking and validating each item.27 indicator scores of the 75 largest global data to compute the aggregate global Member supervisory authorities are banking organizations, as measured by indicator amounts. For instance, some responsible for ensuring that their the BCBS, and any other banking commenters expressed the view that banking organizations are reporting organization that the BCBS includes in they were unable to evaluate the data accurate data. Under the BCBS its sample total for that year, converted collection process of foreign framework, it is expected that national into U.S. dollars and published by the jurisdictions, and did not provide supervisory authorities will require Board. The 75 largest global banking procedural and substantive safeguards. banking organizations included in the Commenters also expressed concern global sample to publicly disclose the 26 See 77 FR 76487 (December 28, 2012). The Board subsequently revised the FR Y–15 in regarding the quality of the global data, 12 indicators used in the assessment December 2013. See 78 FR 77128 ( December 20, suggesting that there may be methodology in order to increase 2013). On July 9, 2015, the board invited comment inconsistencies between data reporting transparency. National authorities also on a proposal to revise the FR Y–15. See 80 FR across jurisdictions and noting that have discretion under the framework to 39433. Among other changes, the reporting proposal would have collected information on foreign jurisdictions may not make their require that banking organizations short-term wholesale funding based on the Board’s institutions’ data public. Other proposed rule to establish GSIB surcharges. In commenters questioned the 27 See the reporting instructions on the Bank for connection with this final rule, the Board is transparency and auditability of the International Settlement’s Web page ‘‘Global amending the proposed short-term wholesale systemically important banks: Assessment funding collection, and extending the comment measure and contended that it was methodology and the additional loss absorbency period on the proposal to end 60 days after this unclear whether U.S. authorities would requirement,’’ available at http://www.bis.org/bcbs/ final rule is published in the Federal Register. be able to audit the foreign data. gsib/.

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disclose the full breakdown of the TABLE 2—PROPOSED METHOD 1 TABLE 3—METHOD 2 SURCHARGE indicators as set out in the template, and SURCHARGE—Continued many have opted to do so.28 Moreover, Method 2 the reporting form includes automated Method 1 score Method 2 surcharge score (basis checks, and the BCBS, in collaboration Method 1 surcharge points) with Board and other national (basis points) supervisory staff, conducts a review of Less than 0.0 percent (no surcharge). the data to be included in the global 630 or 3.5 percent plus 1.0 percentage 130. systemic indicators to serve as a final greater. point for every 100 basis point 130–229 .. 1.0 percent. check for data that has been increase in score. 230–329 .. 1.5 percent. misreported. This process also compares 330–429 .. 2.0 percent. prior-year submissions to identify 430–529 .. 2.5 percent. As reflected in Table 2, a GSIB would 530–629 .. 3.0 percent. whether there is a material change in a have been subject to a minimum capital reported figure. To the extent that a 630–729 .. 3.5 percent. surcharge of 1.0 percent. The minimum banking organization’s submissions 730–829 .. 4.0 percent. surcharge of 1.0 percent for all GSIBs raise questions, the BCBS team goes 830–929 .. 4.5 percent. accounts for the inability to know 930–1029 5.0 percent. back to the regulator of the banking precisely where the cut-off line between 1030– 5.5 percent. organization, which consults with the 1129. company to verify the accuracy of the a GSIB and a non-GSIB will be at the time failure occurs, and the purpose of 1130 or 5.5 percent plus 0.5 percentage submission. To date, inspections have greater. point for every 100 basis point identified issues that have required the surcharge of enhancing resilience of increase in score. firms to resubmit data and have led to all GSIBs. The surcharge increased in increments of 0.5 percentage points for updates in the aggregate global indicator As reflected in Table 3, a GSIB would amounts. The Federal Reserve will each 100 basis-point band, up to a method 1 surcharge of 2.5 percent. If a have been subject to a minimum capital continue to participate in the global data surcharge of 1.0 percent under method GSIB’s method 1 score exceeded 529, collection process to help ensure the 2.29 Like the method 1 surcharge, the the GSIB would have been subject to a continuing quality of the global data method 2 surcharge uses band ranges of surcharge equal to 3.5 percent, plus 1.0 used in the final rule. 100 basis points, with the lowest band percentage point for every 100 basis C. Computing the Applicable GSIB ranging from 130 basis points to 229 Surcharge point increase in score. Using current basis points. The method 2 surcharge data, the method 1 score of the largest Under the proposal, a bank holding increases in increments of 0.5 U.S. GSIB is estimated to be within the percentage points per band, including company with an aggregate systemic 2.5 percent band. By increasing the indicator score of 130 basis points or bands at and above 1130 basis points. surcharge by 1.0 percentage point As with the method 1 surcharge, the greater would be identified as a GSIB (instead of 0.5 percentage points), the and, as such, would be subject to the method 2 surcharge includes an proposed rule was designed to provide higher of the two surcharges calculated indefinite number of bands in order to a disincentive to existing GSIBs to under method 1 and method 2. give the Board the ability to assess an increase their systemic footprint. appropriate surcharge should a GSIB 1. Method 1 Surcharge As discussed above, the Board become significantly more systemically As noted above, under the proposal, received comments on the proposed important. a bank holding company would have method 1 categories, the weighting of As discussed above in section II.A.2.b calculated its method 1 score using the the categories, the relative approach, of this preamble, the final rule adopts a same methodology used to determine and the calibration method. For the fixed approach for converting a bank whether the bank holding company was reasons discussed in other sections, the holding company’s systemic indicator a GSIB. A bank holding company’s final rule adopts method 1 surcharges value into its method 2 score, instead of method 1 score receives a surcharge in without change. measuring the systemic indicator value accordance with Table 2, below. as relative to an annual aggregate global 2. Method 2 Surcharge indicators. The fixed approach used in TABLE 2—PROPOSED METHOD 1 method 2 employs constants, described Under the proposed method 2, a GSIB SURCHARGE immediately below, that are based on would have calculated a score for the the average of the aggregate global Method 1 size, interconnectedness, complexity, indicator amounts for each indicator for score Method 1 surcharge and cross-jurisdictional activity year-end 2012 to 2013.30 The aggregate (basis systemic indicators in the same manner points) global indicator amounts are converted as it would have computed its aggregate from euros to U.S. dollars using an Less than 0.0 percent (no surcharge). systemic indicator score under method exchange rate equal to the average daily 130. 1. Rather than using the method 1 foreign exchange spot rates from the 130–229 .. 1.0 percent. substitutability category, under the period 2011–2013, rounded to five 230–329 .. 1.5 percent. proposed method 2, the GSIB would 330–429 .. 2.0 percent. have used a quantitative measure of its 29 430–529 .. 2.5 percent. As noted above, the minimum surcharge of 1.0 use of short-term wholesale funding percent for all GSIBs accounts for the inability to 530–629 .. 3.5 percent. (short-term wholesale funding score). To know precisely where the cut-off line between a GSIB and a non-GSIB will be at the time when a 28 At least the following countries required their determine its method 2 surcharge, a failure occurs, and the purpose of the surcharge of largest banking organizations to disclose the full GSIB would have identified the method enhancing resilience of all GSIBs. breakdown of their end-2013 indicators: Austria, 2 surcharge that corresponds to its 30 Note that there is no comparable data for Belgium, France, Italy, the Netherlands, Norway, method 2 score, as identified in Table 3 trading and AFS securities due to a definitional Spain, Sweden, the United Kingdom, and the change, so only the end-2013 value is used in the United States. below. calculation.

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decimal places.31 In developing the uses a three-year average exchange rate. reduces the steps that a GSIB must take fixed coefficients, the Board analyzed A three-year average reduces potential to determine its method 2 score, as data covering several years and found volatility in the score that would be compared to the proposal. Presented in that averaging a global measure of a introduced by the volatility in daily another manner, the method 2 indicator given systemic indicator amount over at spot-rates while reflecting more coefficients in the final rule are least two years reduced the impact of sustained changes in exchange rates. calculated as follows: 33 short-term fluctuations of the aggregate The final rule assigns a constant, or Indicator weight/(average aggregate global indicator amount, while coefficient, to each systemic indicator global indicator(in EUR) * FX improving the predictability of the score that includes the average aggregate conversion rate(EUR to USD)) * 10,000 calculation.32 To convert the global global indicator amount, the indicator (conversion to basis points) * 2 measure of a given systemic indicator weight, the conversion to basis points, These coefficients are set forth in amount to U.S. dollars, the final rule and doubling of firm scores. This Table 4, below:

TABLE 4—COEFFICIENTS FOR METHOD 2 SYSTEMIC INDICATORS 34

Coefficient Category Systemic indicator value (%)

Size ...... Total exposures ...... 4.423 Interconnectedness ...... Intra-financial system assets ...... 12.007 Intra-financial system liabilities ...... 12.490 Securities outstanding ...... 9.056 Complexity ...... Notional amount of over-the-counter (OTC) derivatives ...... 0.155 Trading and available-for-sale (AFS) securities ...... 30.169 Level 3 assets ...... 161.177 Cross-jurisdictional activity ...... Cross-jurisdictional claims ...... 9.277 Cross-jurisdictional liabilities ...... 9.926

Use of a fixed approach improves the confidence in a firm or believe other proposal provides appropriate predictability of the scores and short-term creditors may lose incentives to firms to reduce use of facilitates capital planning by GSIBs. It confidence in that firm, those creditors short-term wholesale funding. Other will also permit firms to calculate their have a strong incentive to withdraw commenters objected to the inclusion of method 2 scores as soon as they funding quickly before withdrawals by short-term wholesale funding in the calculate their systemic indicator other creditors drain the firm of its GSIB surcharge, pointing to other values, and not depend on publication liquid assets. To meet its obligations, regulatory initiatives that address of aggregate global figures as was the the borrowing firm may be required to liquidity concerns, such as the liquidity case under the proposal. rapidly sell less liquid assets, which it coverage ratio (LCR). Several While the final rule’s method 2 score may be able to do only at fire sale prices commenters argued that the liquidity has the advantages set forth above, the that deplete the seller’s capital and framework should be implemented Board acknowledges that over time, a drive down asset prices across the before short-term wholesale funding is bank holding company’s method 2 score market. Asset fire sales may also occur included as part of the GSIB surcharge. may be affected by economic growth in a post-default scenario, as a defaulted Another commenter expressed the view that does not represent an increase in firm’s creditors seize and rapidly that capital is an ineffective tool to stem systemic risk. To ensure changes in liquidate assets the defaulted firm has contagious runs because no reasonable economic growth do not unduly affect posted as collateral. These fire sales can amount of capital would be able to firms’ systemic risk scores, the Board result in externalities that spread absorb mounting losses resulting from will periodically review the coefficients financial distress among firms as a run-driven asset fire sales. and make adjustments as appropriate. result of counterparty relationships or The final rule includes a short-term because of perceived similarities among wholesale funding component because 3. Short-Term Wholesale Funding firms, forcing other firms to rapidly use of short-term wholesale funding is The proposed method 2 incorporated liquidate assets in a manner that places a key determinant of the impact of a a measure of short-term wholesale the financial system under significant firm’s failure on U.S. financial stability. funding in place of substitutability in stress. Increasing capital is an effective tool to order to address the risks presented by Several commenters expressed reduce the risk of liquidity runs because those funding sources. During periods of support for the inclusion of a short-term capital helps maintain confidence in the stress, reliance on short-term wholesale wholesale funding measure, claiming firm among its creditors and funding can leave firms vulnerable to that short-term wholesale funding is counterparties. In addition, if runs do runs that undermine financial stability. more correlated to probability of failure occur, additional capital buffers will When short-term creditors lose than substitutability and that the increase the probability that the firm

31 To determine the rounded foreign exchange of available data (other than due to a definitional 34 The final rule presents the coefficients using conversion rate of 1.3350, the Board averaged the change for trading and AFS securities). five decimal places based on a review of the daily euro to U.S. dollar spot rates from 2011–2013 33 For example, the coefficient value for the size estimated scores of the largest five bank holding as published by the European Central Bank category is calculated as follows: 20 percent companies. Increasing the number of decimal available at https://www.ecb.europa.eu/stats/ (indicator weight)/(67,736 billion EUR (average of places would have an immaterial difference on the exchange/eurofxref/html/index.en.html. 2012–2013 aggregate global indicator) * 1.3350 systemic indicator scores of bank holding 32 The final rule chose a two year average, as there EUR/USD) * 10,000 (conversion to bps) * 2, which have not been dramatic fluctuations in the aggregate is equivalent to the coefficient value of 4.423 companies. global indicator amounts over the last several years percent in Table 4.

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will be able to absorb losses without 2015.37 In connection with this final prudential standards be tailored and failing. rule, the Board is amending the take into consideration capital structure, Furthermore, other liquidity proposed FR Y–15 collection in order to riskiness, complexity, financial measures, such as the LCR, do not fully align the definition of short-term activities, size, and other risk-related address the systemic risks of short-term wholesale funding with the definition factors. wholesale funding. The LCR generally contained in the final rule. Comments In connection with this final rule, the permits the outflows from such on these amendments will be due 60 Board has benefitted from the liabilities to be offset using either high days after publication of the final rule information, suggestions, and analysis quality liquid assets or the inflows from in the Federal Register. provided by commenters. To help short-term claims with a matching explain how the Board has analyzed this maturity. In cases where a firm uses 4. Calibration of GSIB Surcharge and and other information available to it, the short-term wholesale funding to fund a Estimated Impact Board is publishing with this rule a short-term loan, a run by the firm’s As described in the proposal, the white paper that supplements the short-term creditors could force the firm calibration of the GSIB surcharge was calibration outlined in the final rule and to quickly reduce the amount of credit based on the Board’s analysis of the the rationale for the surcharge levels it extends to its clients or additional capital necessary to equalize that apply under the rule.38 The white counterparties. Those counterparties the expected impact on the stability of paper expands on the expected impact could then be forced to rapidly liquidate the financial system of the failure of a approach described in the proposed assets, including relatively illiquid GSIB with the expected systemic impact rule, describes the assumptions assets, which might give rise to a fire of the failure of a large bank holding necessary to that approach, and helps sale.35 Because the GSIB surcharge company that is not a GSIB (expected explain the assumptions underlying and focuses only on a bank holding impact approach). Increased capital at a the analytical framework supporting the company’s use of short-term wholesale GSIB increases the firm’s resiliency, final rule. The Board has incorporated funding and does not take into account thereby reducing its probability of that analysis in its consideration and is the inflows, it complements the failure and resulting in reduced publishing the white paper to make it liquidity requirements imposed by the expected systemic impact. more accessible to the public. LCR. Some commenters expressed support As discussed more fully in the white One commenter argued that the for the proposed expected impact paper, under the expected impact proposal did not explain why the short- approach, suggesting that the approach approach, the GSIB surcharge is term wholesale funding indicator would reduce the GSIBs’ risk of failure calibrated to reduce the expected impact should replace the substitutability and provide incentives for firms to of a GSIB’s failure to equal that of a category rather than any of the other restructure and reduce their systemic large banking organization that is not a categories. As noted in the proposal, footprint. However, several commenters GSIB, which the white paper refers to as substitutability is relevant in were critical of the expected impact the ‘‘reference BHC’’ (r). In terms of determining whether a bank holding approach as outlined in the proposal. systemic loss given default (LGD), company is a GSIB, as the failure of a Several commenters argued that the probability of default (PD), and expected bank holding company that performs a proposal did not include underlying systemic loss from default (EL), this critical function can pose significant empirical analysis to support the approach is expressed symbolically as risks to U.S. financial stability. surcharge levels and argued that it was follows: However, use of short-term wholesale not possible to judge whether the EL GSIB = ELr, funding is a key determinant of the proposal achieves its underlying aims. where: Further, commenters argued that the systemic losses resulting from a firm’s EL = LGD * PD failure.36 As the GSIB surcharge is underlying analysis should be made Since LGD is (by the definition of calibrated to equate the systemic loss of public and the public given an GSIB GSIB) greater than LGDr, satisfying the a GSIB’s failure to the failure of a large opportunity to comment on that equation requires PD to be reduced non-GSIB, it is appropriate to replace analysis. GSIB below PDr. For example, if a given the measures of substitutability with a Section 165 of the Dodd-Frank Act GSIB’s loss given default is twice as measure of short-term wholesale directs the Board to impose enhanced great as that associated with the funding. prudential standards that prevent or One commenter contended that the mitigate risks to the financial stability of reference BHC, then that GSIB’s Board should conduct a more structured the United States that could arise from probability of default must be reduced data collection in relation to short-term the material financial distress or failure to half of the reference BHC’s wholesale funding to ensure dynamic of large, interconnected financial probability of default. This rule achieves monitoring and regulation of short-term institutions. Because the failure of a that goal by subjecting the GSIB to a wholesale funding activities by GSIBs GSIB may pose significant risk to U.S. capital surcharge, since a larger capital and appropriate tailoring of regulatory financial stability, regulations under buffer allows a firm to absorb a larger regimes based on trends in these section 165 of the Dodd-Frank Act amount of losses without failing. markets. Consistent with the should be designed to lower the Several components are necessary to commenter’s suggestion, the Board probability of default of such firms. One operationalize the expected impact invited comment on a proposal to method of lowering the probability of framework: A metric for quantifying a collect information regarding a bank default of a financial firm is to impose BHC’s systemic loss given default (that holding company’s short-term additional capital requirements on that is, its systemic footprint); a reference wholesale funding sources on July 9, firm. Imposing the GSIB surcharge on BHC with an LGD score that can be only the largest, most interconnected compared to the scores of the GSIBs; 35 The risk described here is similar to the risk financial firms—the GSIBs—is and a function for evaluating the associated with matched books of securities consistent with the direction in section financing transactions, which is discussed in 38 See Calibration of the GSIB Surcharge. The http://www.federalreserve.gov/newsevents/speech/ 165 of the Dodd-Frank Act that Board relied on the white paper and its tarullo20131122a.htm. explanations and analysis in this rulemaking and 36 Id. 37 See 80 FR 39433. incorporates it by reference.

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amount of additional capital that is paper, drawing the cut-off line within increases to reductions in probability of necessary to cut a BHC’s probability of this target range is reasonable because default. The white paper uses default by a desired fraction. firms with scores at or below 51 were approximately three decades’ worth of The white paper quantifies firms’ much closer in size and complexity to data on the return on risk-weighted systemic loss given default using the financial firms that have previously assets (RORWA) of the fifty largest U.S. final rule’s method 1 and method 2. It been resolved in an orderly fashion than bank holding companies to determine also discusses several plausible choices they were to the largest financial firms, the probability distribution of losses of reference BHC and the scores which had scores between three and (that is, negative RORWAs) of various associated with those choices under nine times as high and are significantly magnitudes by large U.S. bank holding each of the two methods. The expected larger and more complex. companies. The probability that a bank impact framework requires that the The Board has chosen a cut-off line of holding company will default within a reference BHC be a non-GSIB, but it 130 for method 1, which is at the upper given time period is the probability that leaves room for discretion as to the end of the target range. This choice is it will take losses within that time reference BHC’s identity and LGD score. appropriate because it aligns with period that exceed the difference The white paper explores several international standards and facilitates between its capital ratio at the beginning options for choosing a reference BHC comparability among jurisdictions. of the time period and a ‘‘failure point’’ and the surcharges that stem from these For method 2, the white paper beyond which the firm is unable to options. The reference BHC choices identifies the gap between Bank of New recover and ultimately defaults. Thus, considered are (1) a representative bank York Mellon and the next-highest- the historical data on RORWA holding company with $50 billion in scoring firm as the most rational place probabilities can be used to create a total assets (a threshold used by section to draw the line between GSIBs and function that relates a firm’s capital 165 of the Dodd-Frank Act to determine non-GSIBs: BNYM’s score is roughly ratio to the probability that it will suffer which bank holding companies should 251 percent of the score of the next a loss that causes it to default. be subjected to enhanced prudential highest-scoring firm. (There is also a By combining these three standards in order to promote financial large gap between Morgan Stanley’s components, a capital surcharge can be stability); (2) a representative BHC with score and Wells Fargo’s, but the former assigned to GSIBs based on their LGD $250 billion in total assets (a threshold is only about 154 percent of the latter.) scores. This can be done by finding the used by the Board to identify advanced Furthermore, using this approach ratio between a reference bank holding approaches bank holding companies); generates the same list of eight U.S. company’s score (under each method) (3) the actual U.S. non-GSIB with the GSIBs as is produced by method 1. and a GSIB’s score and then finding the highest score under each method (that The Board has chosen the lower end capital surcharge that the GSIB must is, the most systemically important U.S. of the target range for purposes of meet to equate that ratio with the ratio bank holding company that is not a method 2. In determining the of the GSIB’s probability of default to GSIB); and (4) a hypothetical bank appropriate threshold method 2, the the reference BHC’s probability of holding company with a score Board considered that the statutory default. This analysis produces a range somewhere in between the score of the mandate to protect U.S. financial of capital surcharges for a given method most systemic U.S. non-GSIB and the stability argues for a method of 1 or method 2 score, which vary score of the least systemic GSIB. calculating surcharges that addresses depending on the choice of reference Within option 4, the white paper the importance of mitigating the effects BHC. identifies a hypothetical bank holding on financial stability of the failure of Based on this analysis, the Board company with a score between the score U.S. GSIBs, which are among the most determined to apply surcharges to of the least systemic GSIB and the score systemically important financial discrete ‘‘bands’’ of scores. The of the most systemic U.S. non-GSIB for institutions in the world. The lower cut- surcharges correspond to the Board’s both method 1 and method 2. For each off line is appropriate in light of the fact analysis of the various options for method, the Board considered where the that method 2 uses a measure of short- reference BHCs, including a reference range between the lowest scoring GSIB term wholesale funding in place of BHC score of 130 for purposes of and a highest scoring non-GSIB would substitutability. Specifically, short-term method 1 and a reference BHC score at lie, and considered several options for a wholesale funding has particularly or around 100 for purposes of method cut-off line within the target range. For strong contagion effects that could more 2. method 1, that gap lies between the easily lead to major systemic events, Under both method 1 and method 2, bank holding company with the eighth- both through the freezing of credit GSIBs with a score between 130 and 229 highest score (146), and the bank markets and through asset fire sales. will be subject to a surcharge of 1.0 holding company with the ninth-highest Further, although the failure of a large, percentage points. The minimum score (51).39 As discussed in the white non-GSIB poses a smaller risk to surcharge of 1.0 percent for all GSIBs financial stability than does the failure accounts for the inability to know 39 These estimated scores may not reflect the of one of the eight GSIBs, it is precisely where the cut-off line between actual scores of a given firm, and they will change nonetheless possible that the failure of a GSIB and a non-GSIB will be at the over time as each firm’s systemic footprint grows a very large banking organization that is time when a failure occurs, and the or shrinks. Estimated scores for method 1 were produced using indicator data reported by firms on not a GSIB could have a negative effect purpose of the surcharge of enhancing the FR Y–15 as of December 31, 2014, and global on financial stability, particularly the resilience of all GSIBs. aggregate denominators reported by the Basel during a period of industry-wide stress Above the first band, the method 1 Committee on Banking Supervision as of December such as occurred during the 2007–2008 and method 2 scores rise in increments 31, 2013. Estimated scores for method 2 were 40 produced using the same indicator data and the financial crisis. This provides further of one half of a percentage point. This average of the global aggregate denominators support for setting the cut-off line for reported by the BCBS as of the ends of 2012 and method 2 at the lower end of the target 40 Method 1 scores above 530 are associated with 2013. For the eight U.S. BHCs with the highest range. surcharge bands that rise in increments of 1.0 scores, the short-term wholesale funding percentage points. The heightened increment component of method 2 was estimated using To implement the expected impact associated with the fifth band under method 1 was liquidity data collected through the supervisory approach, the white paper provides a designed to provide a strong disincentive for further process and averaged across 2014. framework that relates capital ratio increases in systemic footprint.

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sizing was chosen to ensure that modest financial stability, the Board has GSIB.41 This better aligns the surcharge changes in a firm’s systemic indicators determined that a higher threshold of with the risks presented by U.S. GSIBs will generally not cause a change in its certainty should be imposed on the to U.S. financial stability and the risks surcharge, while at the same time sufficiency of capital requirements for presented by short-term wholesale maintaining a reasonable level of the most systemically important funding. Method 2 raw scores were sensitivity to changes in a firm’s financial institutions. doubled to permit comparability systemic footprint. Because small The white paper also discusses two between scores produced under method changes in a firm’s score will generally alternatives to the expected impact 1 and method 2. Several commenters expressed not cause a change to the firm’s framework for calibrating GSIB capital concern that the proposed calibration surcharge, using surcharge bands will surcharges. The first alternative is an facilitate capital planning by firms based on the expected impact approach economy-wide cost-benefit analysis, subject to the rule. did not take into account existing and which would weigh the costs of higher In both methods, the bands are forthcoming regulatory reforms, such as equally sized at 100 basis points per capital requirements for GSIBs (such as the LCR, net stable funding ratio band. In developing the band structure, a potential temporary decline in credit (NSFR), and enhanced supplementary the Board also considered sizing the intermediation) against the benefits leverage ratio. The Board recognizes that bands using the logarithmic function (most notably, a reduction in the most of the historical RORWA data used implied by the model used to relate a frequency and severity of financial to calibrate the surcharge predate those firm’s score to its surcharge. A crises). Although analytical work by the reforms. If those reforms lower the logarithmic function would result in BCBS suggests that capital ratios higher probabilities of default of GSIBs for a smaller bands at lower scores and larger than those that will apply under the given level of capital to a greater extent bands at higher scores. Larger surcharge final rule would produce net benefits to than they do for non-GSIBs (such as the bands for the most systemically the economy, the white paper does not reference BHC), then the historical data important firms would allow these firms use this framework as the primary may overestimate the required surcharge to expand their systemic footprint calibration framework because its levels. At the same time, however, the materially within the band without results are highly sensitive to a number historical data may underestimate augmenting their capital buffers. As of factors, including assumptions probabilities of default for GSIBs due to discussed further in the white paper, the regarding the probability of and harm the fact that during certain time periods Board determined that fixed-width caused by economic crises, the extent to included within the sample bands were more appropriate than which higher capital requirements (particularly the 2007–2008 financial logarithmically sized bands for several might reduce credit intermediation by crisis), the U.S. government took certain reasons. firms subject to those requirements, the extraordinary actions to protect For example, while the historical rate at which other firms would expand financial stability, and, without these RORWA dataset used to derive the their output of credit intermediation, interventions, large banking firms likely function relating a firm’s LGD score to and the harm associated with a given would have incurred substantially its surcharge contains many diminution in credit intermediation. greater losses. Because a key purpose of observations for relatively small losses, The second alternative is to calibrate post-crisis regulation is to ensure that it contains far fewer observations of the surcharge by determining the such extraordinary government actions large losses of the magnitude necessary surcharge necessary to offset any are not necessary in the future, an ideal to cause the failure of a firm that has a funding advantage that GSIBs may data set would show the losses that very large systemic footprint because derive from market participants’ would have occurred in the absence of losses of that magnitude are much less perception that the government may government intervention and would common than smaller losses. The data resort to extraordinary measures to thus include a higher incidence of set is also limited because the frequency rescue them if they come close to significant losses. Accordingly, there are of extremely large losses would likely failure. Although any such funding reasons to believe that the historical have been higher in the absence of advantage creates harmful economic data overestimate the probability of extraordinary government actions taken distortions, the primary harm associated large losses and there are reasons to to protect financial stability, especially with GSIBs is the risk that their failure believe that those data underestimate during the 2007–2008 financial crisis. would pose to financial stability. the probability of large losses. Given This may mean that firms need to hold Moreover, the size of any such funding this balance of uncertainties, it is more capital to absorb losses in the tail advantage for an individual GSIB is very appropriate to treat the historical data as of the distribution than the historical difficult to estimate. Accordingly, the reasonably representative of future loss data would suggest. Finally, the data set white paper focuses on the expected probabilities for large bank holding are subject to survivorship bias, in that impact framework rather than the companies. a given bank holding company is only funding-advantage-offset framework. Commenters also contended that the included in the sample up until the proposal did not clarify the Several commenters questioned why point where it fails (or is acquired). If a characteristics of the large but not proposed method 2 produced higher firm fails in a given quarter, then its systemically important bank holding surcharges, and why the inputs to the experience in that quarter is not company that served as the reference method 2 score are doubled. As included in the data set, and any losses point for the calibration. This topic is discussed more fully in the white paper, realized during that quarter (including addressed in detail by the white paper; the expected impact analysis suggests losses realized only upon failure) are as discussed above, the white paper sets therefore excluded from the dataset, this doubling of scores originally leading to an underestimate of the included in the proposal is not relevant 41 This is because the surcharges that result from probability of such large losses. Given to the calculation of surcharges. Rather, the framework applied by the white paper depend this uncertainty, and in light of the as noted above, the higher method 2 only on the ratios between the GSIBs’ scores and surcharges result from the selection of a the score of the reference BHC; changes to the Board’s mandate under section 165 of absolute values of these scores do not affect the the Dodd-Frank Act to impose reference BHC at the lower end of the resulting surcharges so long as those ratios remain prudential standards to mitigate risks to gap between a GSIB and a large non- the same.

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forth and evaluates four potential Additional capital at the largest, most detriment of the U.S. financial system choices of reference BHC. Further, at interconnected institutions, is intended and economy, particularly in light of least one commenter noted that the to reduce the likelihood that the failure other prudential measures. Other BCBS study referenced in the proposal or material financial distress of these commenters suggested that the Board was not specifically targeted at large institutions will again pose a threat to conduct a study of the effect of the U.S. banking organizations. As U.S. financial stability. In particular, proposed surcharges on the U.S. discussed above and in the white paper, additional capital increases the financial system and wider economy. the BCBS long-term economic impact resiliency of institutions, reducing the Commenters also raised concerns that study is not directly relevant to the likelihood of failure and thereby the proposed rule would cause financial primary framework used to calibrate the protecting the firm’s creditors and activities to move to unregulated GSIB surcharge (that is, the expected counterparties, as well as the U.S. financial institutions. impact framework). However, although government and taxpayers. Additional The goal of the GSIB surcharge is to the BCBS study did not limit its analysis capital also decreases the risk that increase the resiliency of the largest U.S. to capital requirements for U.S. GSIBs, distress at any particular firm will be banking organizations, which is likely to the study nonetheless provides helpful transmitted throughout the financial result in lower costs of funding for these context to inform the calibration of the system through mechanisms such as fire institutions and a safer, more stable U.S. GSIB surcharge. sales of assets, thereby causing or financial system. As discussed above, Some commenters expressed concern exacerbating a financial crisis. Further, these measures are necessary to address regarding the calibration’s basis in the it enables a firm during a period of the risks to U.S. financial stability posed expected impact approach, arguing that, wider financial crisis to continue by the U.S. GSIBs, notwithstanding the if failure is assumed, then pre-failure operations and, if need be, step into the fact that some foreign regulators may capital is likely to have no effect or only place of distressed firms, limiting the impose lower surcharges on banking a limited effect on systemic impact. As impact of wider financial system stress organizations in their jurisdictions. discussed above, the expected impact on financial intermediation and Notably, certain jurisdictions have framework does not ‘‘assume’’ failure; reducing the adverse impact on the real imposed capital surcharges on their rather, it considers the harms that economy. largest bank holding companies in failure would cause and then considers In addition, the costs of the final rule excess of GSIB surcharges under the the level of capital necessary to reduce on individual institutions are mitigated BCBS framework.42 the probability of failure to a level that in light of the phased implementation of The Board continues to monitor the is consistent with the purposes of the the final rule. First, the GSIB surcharge effects of its regulation on the Dodd-Frank Act. Additional capital is a is phased-in over several years, from competitiveness of U.S. GSIBs as highly effective means of reducing a January 1, 2016, to December 31, 2018, compared to foreign banking banking organization’s probability of which allows firms time to accumulate organizations and unregulated entities. failure. additional capital if necessary or to take The Board is actively coordinating with actions to reduce their surcharges in the the Financial Stability Oversight 5. Costs and Benefits of the Proposal interim. Council in these efforts and will take The Board sought comment on the In light of the timeframe for action as necessary. potential costs of the proposed GSIB implementation of the final rule, it is Some commenters expressed concern surcharge, and the potential impacts of not anticipated that the final rule would that a GSIB surcharge would foster the proposed framework on economic have significant adverse impacts on any rather than correct the impression that growth, credit availability, and credit specific financial markets. The Board certain firms are too-big-to-fail (if a costs in the United States. Some intends to monitor the impacts of the perception that firms were too-big-to-fail commenters suggested that the enhanced prudential standards on was still in place). To the extent that surcharges were supported by existing financial institutions and markets more GSIBs continue to enjoy a ‘‘too-big-to cost benefit analyses and would deliver broadly, and to continue to evaluate fail’’ funding subsidy, the surcharge will substantial net economic benefits. whether these standards strike the help offset this subsidy and cancel out However, several other commenters appropriate balance between the costs the undesirable effects. raised concern that the higher standards imposed on institutions and financial One commenter argued that the on U.S. GSIBs would inhibit lending, markets and the benefits to U.S. proposal did not include any analysis market-making, and the provision of financial stability. that would fulfill the Federal Reserve’s liquidity by the financial sector, or Some commenters argued that GSIB obligations under the Riegle Community would impose costs on other market surcharges would add to the complexity Development and Regulatory participants. Commenters contended and opacity of the regulatory capital and that these concerns were particularly stress-testing requirements, and that 42 For example, the Swedish authorities require relevant in light of the introduction of these measures impose substantial their GSIBs to hold an additional 5.0 percent of risk-weighted assets in common equity tier 1 capital higher regulatory requirements in the compliance costs on banking as of January 1, 2015 (see http://www.fi.se/upload/ United States across several areas. organizations. Suggestions on how to 90_English/20_Publications/20_Miscellanous/2014/ While the GSIB surcharge may cause address this issue included an approach kapital_eng.pdf). In the Netherlands, the De firms to hold additional capital, any where firms could choose to hold Nederlandsche Bank imposed an additional buffer of 3.0 percent of risk-weighted assets in common costs on individual institutions and substantially more capital in return for equity tier 1 capital for Dutch GSIBs (see http:// markets from the GSIB capital surcharge regulatory relief in other areas. Several www.dnb.nl/en/news/news-and-archive/dnbulletin- must be viewed in light of the benefits commenters expressed concerns about 2014/dnb306988.jsp). The Swiss framework for of the rule to U.S. financial stability systemically important financial institutions the continued reliance by regulators on requires such firms to hold at least and additional more broadly. Notwithstanding the the existing risk-based capital regime, 3.0 percent of risk-weighted assets in common extraordinary support provided by U.S. with some arguing that greater emphasis equity tier 1 capital in addition to the Basel and foreign governments, it is worth should be placed on the leverage ratio. standard requirement of 7.0 percent (4.5 percent minimum plus 2.5 percent capital conservation noting that the 2007–2008 crisis Several commenters argued that the buffer) (see Addressing ‘‘Too Big to Fail,’’ The imposed significant costs on the proposed rule could result in Swiss SIFI Policy, June 23, 2011 available at https:// financial markets and the real economy. competitive disadvantages to the www.finma.ch/en).

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Improvement Act (Riegle Act), which conservation buffer of 2.5 percent, the primary objective of CCAR to ensure requires the Federal banking agencies to results in a banking organization post-stress going-concern viability. consider benefits any administrative needing to maintain a common equity Further, commenters argued that CCAR burdens that regulations place on tier 1 capital ratio of more than 7.0 was already more stringent on firms depository institutions. The Riegle Act percent to avoid limitations on with significant trading operations due requires a federal banking agency to distributions and certain discretionary to the add-on global market scenario consider administrative burdens and bonus payments. Under the final rule, and counterparty default scenario. benefits in determining the effective this 7.0 percent level would be further The Board is currently considering a date and administrative compliance increased by the applicable GSIB broad range of issues related to the requirements for new regulations that surcharge. The mechanics of the capital capital plan and stress testing rules, impose additional reporting, disclosure, conservation buffer calculations, after including how the rules interact with or other requirements on a depository incorporating the GSIB surcharge, are other elements of the regulatory capital institution.43 Neither the proposal nor illustrated in the following example.47 A rules, such as the GSIB surcharge, and the final rule imposes additional bank holding company has a method 1 whether any modifications may be reporting, disclosure, or other score of 350, and thus would be appropriate.49 requirements on a depository identified as a GSIB. This method 1 E. Implementation and Timing institution. Rather, only certain large score corresponds to a 2.0 percent U.S. bank holding companies are subject surcharge. The GSIB has a method 2 The proposed rule included to the rule. score of 604 which corresponds to a provisions regarding both initial and surcharge of 3.0 percent. As the method ongoing applicability of the GSIB D. Augmentation of the Capital 2 surcharge is larger than the method 1 surcharge requirements. As noted above, Conservation Buffer surcharge, the GSIB would be subject to the final rule revises the applicability Under the proposed rule, the GSIB a GSIB surcharge of 3.0 percent. As a threshold so that it includes only surcharge augmented the regulatory result, in order to avoid payout ratio advanced approaches Board-regulated capital rule’s capital conversation limitations under the final rule, the institutions. 44 buffer. Under the regulatory capital GSIB must maintain a common equity 1. Ongoing Applicability rule, a banking organization must tier 1 capital ratio in excess of 10 Subject to the initial applicability maintain a minimum common equity percent (determined as the sum of the provisions described in section II.E.2 of tier 1 capital requirement of 4.5 percent, minimum common equity tier 1 capital this preamble, a bank holding company a minimum tier 1 capital requirement of ratio of 4.5 percent plus an augmented that becomes an advanced approaches 6.0 percent, and a minimum total capital conservation buffer of 5.5 Board-regulated institution must begin capital requirement of 8.0 percent. In percent). In determining the effect on calculating its aggregate systemic addition to those minimums, in order to capital distributions and certain indicator score under method 1 by avoid limits on capital distributions and discretionary bonus payments, each of December 31 of the calendar year after certain discretionary bonus payments, a the four quartiles of the GSIB’s capital the year in which it became an banking organization must hold a conservation buffer would be expanded advanced approaches Board-regulated capital conservation buffer composed of by one fourth of its GSIB surcharge, or institution. Initially, the bank holding common equity tier 1 capital equal to by 0.75 percentage points. more than 2.5 percent of risk-weighted The proposal noted that the Board company will calculate its method 1 assets following a phase-in period. The was analyzing whether the capital plan score using data as of the same year in capital conservation buffer is divided and stress test rules should also which it became an advanced into quartiles, each associated with incorporate the GSIB surcharge.48 One approaches Board-regulated institution, increasingly stringent limitations on commenter supported inclusion of the including information reported on the capital distributions and certain GSIB surcharge in the Comprehensive FR Y–15 and aggregate global indicator discretionary bonus payments as the Capital Analysis and Review (CCAR). amounts provided by the Board. For capital conservation buffer approaches However, other commenters argued that example, if an institution becomes an 45 zero. the GSIB surcharge should not be advanced approaches bank holding Commenters generally supported the included in CCAR as a post-stress company based on data as of December proposal for implementing the GSIB minimum capital ratio. These 31, 2019, it would use information it surcharge by augmenting the capital commenters asserted that buffers should reported on the FR Y–15 as of December conservation buffer. The Board is be available during times of stress, and 31, 2019, and aggregate global indicator finalizing this aspect of the proposal treating the GSIB surcharge as a amounts published by the Board in the without change. Under the final rule, minimum ratio would not be consistent fourth quarter of 2020 to calculate its following a phase-in period, the GSIB with such a goal. Similarly, commenters method 1 score by December 31, 2020. If the advanced approaches Board- surcharge expands each quartile of a argued that incorporating the GSIB regulated institution’s aggregate GSIB’s capital conservation buffer by buffer into CCAR is inconsistent with the equivalent of one fourth of the GSIB systemic indicator score under method 46 1 meets or exceeds 130 basis points, the surcharge. The minimum common 47 For the purposes of this example, all regulatory equity tier 1 capital requirement for capital requirements are assumed to be fully phased bank holding company would be banking organizations is 4.5 percent, in. identified as a GSIB, and would be which, when added to the capital 48 The capital plan rule (implemented by CCAR) required to calculate its GSIB surcharge evaluates a bank holding company’s capital (using both method 1 and method 2) at adequacy, capital adequacy process, and planned 43 12 U.S.C. 4802. capital distributions, such as dividend payments that time. Like the calculation of the 44 12 CFR 217.11(a). and common stock repurchases. The stress test method 1 score, the GSIB will calculate 45 See id. rules establish a forward-looking quantitative its method 2 score using information it 46 Separate from the possible expansion of the evaluation of the impact of stressful economic and reports on the FR Y–15 as of the capital conservation buffer set forth in this final financial market conditions on the capital position rule, the capital conservation buffer could also be of banking organization, using hypothetical set of previous year-end. However, in place of expanded by any applicable countercyclical capital adverse economic conditions as designed by the buffer amount. See 12 CFR 217.11(b). Board. 49 See 12 CFR 225.8 and 12 CFR part 252.

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the aggregate global indicator amounts that it becomes subject to a higher GSIB from January 1, 2016, to January 1, used in the calculation of the method 1 surcharge, the higher GSIB surcharge 2019.51 This phase-in period was score, the GSIB’s method 2 score will will not take effect for a full year (that chosen to align with the phase-in of the use the fixed coefficients set forth in the is, two years from the systemic indicator capital conservation buffer and any final rule.50 measurement date). If a GSIB’s systemic applicable countercyclical capital The GSIB will have an additional year risk profile changes such that the GSIB buffer, as well as the phase-in period of after calculating its method 1 and would be subject to a lower GSIB the BCBS framework. Table 6 shows the method 2 scores to implement its GSIB surcharge, the GSIB would be subject to regulatory capital levels that a GSIB surcharge. In the example above, the the lower surcharge beginning in the must satisfy to avoid limitations on GSIB surcharge would be calculated by next calendar year. capital distributions and certain December 31, 2020, but would not take effect until January 1, 2022. 2. Initial Applicability discretionary bonus payments during After the initial GSIB surcharge is in For the eight bank holding companies the applicable transition period, from effect, if a GSIB’s systemic risk profile that are expected to qualify as GSIBs, January 1, 2016, to January 1, 2019. changes from one year to the next such the GSIB surcharge will be phased in

TABLE 6—REGULATORY CAPITAL LEVELS FOR GSIBS 52

Jan. 1, 2016 Jan. 1, 2017 Jan. 1, 2018 Jan. 1, 2019

Capital conservation buffer ...... 0.625% ...... 1.25% ...... 1.875% ...... 2.5%. GSIB surcharge ...... 25% of applicable 50% of applicable 75% of applicable 100% of applicable GSIB surcharge. GSIB surcharge. GSIB surcharge. GSIB surcharge. Minimum common equity tier 1 capital ratio + 5.125% + 25% of ap- 5.75% + 50% of appli- 6.375% + 75% of ap- 7.0% + 100% of appli- capital conservation buffer + applicable plicable GSIB sur- cable GSIB sur- plicable GSIB sur- cable GSIB sur- GSIB surcharge. charge. charge. charge. charge. Minimum tier 1 capital ratio + capital con- 6.625% + 25% of ap- 7.25% + 50% of appli- 7.875% + 75% of ap- 8.5% + 100% of appli- servation buffer + applicable GSIB sur- plicable GSIB sur- cable GSIB sur- plicable GSIB sur- cable GSIB sur- charge. charge. charge. charge. charge. Minimum total capital ratio + capital con- 8.625% + 25% of ap- 9.25% + 50% of appli- 9.875% + 75% of ap- 10.5% + 100% of ap- servation buffer + applicable GSIB sur- plicable GSIB sur- cable GSIB sur- plicable GSIB sur- plicable GSIB sur- charge. charge. charge. charge. charge.

The GSIB surcharge in effect on days were chosen to reduce burden on Bank holding companies that are not January 1, 2016, must be calculated by GSIBs, as GSIBs can use data that they expected to qualify as GSIBs do not December 31, 2015. All components are otherwise reporting to the Federal currently report short-term wholesale (other than short-term wholesale Reserve. GSIBs will also use this funding data to the Federal Reserve on funding) will be based on the systemic method to compute their short-term the same basis that the bank holding indicator scores reported by a GSIB on wholesale funding score for purposes of companies expected to qualify as GSIBs the FR Y–15 as of December 31, 2014, the GSIB surcharge calculated in 2016. report. Accordingly, to the extent that and the aggregate global indicator For the surcharge calculated in 2017, such a firm becomes a GSIB on or before amounts published by the Board in the and for all surcharges thereafter, GSIBs December 31, 2016, the GSIB surcharge fourth quarter of 2014. The short-term will compute their short-term wholesale calculated on or before December 31, wholesale funding score will be based funding score using average daily short- 2016, will equal the method 1 surcharge on the average of its weighted short- term wholesale funding amounts. As of the bank holding company. term wholesale funding amounts discussed in section IV of this preamble, Table 7 sets forth the reporting and calculated for July 31, 2015, August 24, the Board has proposed to collect these compliance dates for the GSIB surcharge 2015, and September 30, 2015. These data on the FR Y–15. described above.

TABLE 7—GSIB SURCHARGE REPORTING AND COMPLIANCE DATES DURING PHASE-IN PERIOD

Date Occurrence

November 2015 ...... BCBS publishes aggregate global indicator amounts using 2014 data, and the Board publishes the aggregate global indicator amounts for use by U.S. bank holding companies shortly thereafter. December 31, 2015 ...... Bank holding companies identified as GSIBs must calculate their GSIB surcharges using year-end 2014 systemic indicator scores and short-term wholesale funding data as of July 31, August 24, and September 30, 2015. Advanced approaches bank holding companies must calculate their method 1 score using year-end 2014 systemic indicator scores. January 1, 2016 ...... Bank holding companies identified as GSIBs are subject to the GSIB surcharge (as phased in) calculated by De- cember 31, 2015. March 2016 ...... FR Y–15 filing deadline reflecting bank holding company systemic indicator values and scores as of December 31, 2015.

50 As discussed in section IV of this preamble, the schedule to align the calculation of short-term or more than $10 trillion in assets under custody Board invited comment on a proposed new wholesale funding with the final rule’s definition. as reported on the FR Y–15 as of December 31, schedule to the FR Y–15 to collect information 51 These bank holding companies correspond to 2014. necessary to calculate a firm’s short-term wholesale those with more than $700 billion in total assets as 52 Table 6 assumes that the countercyclical capital funding score on July 9, 2015. In connection with reported on the FR Y–9C as of December 31, 2014, buffer is zero. this final rule, the Board is amending the proposed

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TABLE 7—GSIB SURCHARGE REPORTING AND COMPLIANCE DATES DURING PHASE-IN PERIOD—Continued

Date Occurrence

November 2016 ...... BCBS publishes aggregate systemic indicator amounts using 2015 data, and the Board publishes the aggregate global indicator amounts for use by U.S. bank holding companies shortly thereafter. December 31, 2016 ...... Bank holding companies identified as GSIBs must calculate their GSIB surcharge using year-end 2015 systemic indicator scores and short-term wholesale funding data as of July 31, August 24, and September 30, 2015. Advanced approaches bank holding companies must calculate their method 1 score using year-end 2015 systemic indicator scores. January 1, 2017 ...... If the GSIB surcharge calculated by December 31, 2016, decreases, the GSIB is subject to that lower GSIB sur- charge (as phased in) (if the GSIB surcharge increases, the increased GSIB surcharge comes into effect begin- ning on January 1, 2018 (as phased in)). March 2017 ...... FR Y–15 filing deadline reflecting bank holding company systemic indicator values and scores as of December 31, 2016. November 2017 ...... BCBS publishes aggregate systemic indicator amounts using 2016 data, and the Board publishes the aggregate global indicator amounts for use by U.S. bank holding companies shortly thereafter. December 31, 2017 ...... Bank holding companies identified as GSIBs must calculate their GSIB surcharge using year-end 2016 systemic indicator scores and 2016 short-term wholesale funding data. Advanced approaches bank holding companies must calculate their method 1 score using year-end 2016 systemic indicator scores. January 1, 2018 ...... If the GSIB surcharge calculated by December 31, 2017, decreases, the GSIB is subject to that lower GSIB sur- charge (if the GSIB surcharge increases, the increased GSIB surcharge comes into effect beginning on January 1, 2019).

III. Indicators of Global Systemic Risk comprise a relatively large share of total relative to the group of firms.55 As described above, the proposed rule financial activities. Moreover, the size of Accordingly, the final rule assigns an determined the systemic scores and exposures and volume of transactions equal weighting to each category, and GSIB surcharges of bank holding and assets managed by a banking the Board intends to reassess the regime companies using six components under organization are indicative of the extent at regular intervals to ensure that equal two methodologies, method 1 and to which clients, counterparties, and the weighting remains appropriate. method 2, which are indicative of the broader financial system could suffer Under the final rule, a bank holding global systemic importance of bank disruption if the firm were to fail or company’s size is measured by total holding companies. There is general become distressed. In addition, the exposures, which would mean the bank global consensus that each category larger a banking organization is, the holding company’s measure of total more difficult it generally is for other leverage exposure calculated pursuant included in the BCBS framework is a 56 contributor to the risk a banking firms to replace its services and, to the regulatory capital rule. The organization poses to financial therefore, the greater the chance that the Board has separately proposed changes to the FR Y–15 to align its definition of stability.53 Short-term wholesale banking organization’s distress or failure ‘‘total exposure’’ with the definition in funding is also indicative of systemic would cause disruption. Under the the regulatory capital rule.57 importance, and this component is proposal, size was measured by total included in method 2. exposures, which was equal to the bank B. Interconnectedness A. Size holding company’s measure of total The proposal used interconnectedness leverage exposure calculated pursuant as a category of systemic importance. The proposal used size as a category to the regulatory capital rule.54 of systemic importance. A banking Financial institutions may be organization’s distress or failure is more One commenter contended that, interconnected in many ways, as likely to negatively impact the financial under the proposal, the size indicator banking organizations commonly engage markets and the economy more broadly would effectively be weighted by more in transactions with other financial if the banking organization’s activities than 20 percent under both method 1 institutions that give rise to a wide and method 2, because other indicators range of contractual obligations. 53 Discussion of this view is contained in the are strongly correlated with size, and Financial distress at a banking report to the G20 by the BIS, FSB, and IMF (2009). therefore suggested that the size organization may materially raise the Further, earlier, the ECB (2006) studied indicators indicator be weighted less than 20 likelihood of distress at other firms such as size and interconnectedness in their efforts given the network of contractual to identify systemically important banking percent or that caps be used to limit its organizations. Similar work was undertaken by the impact. As discussed above, there is obligations throughout the financial BCBS when it developed the current indicators general global consensus that each system. Accordingly, a banking used in identifying GSIBs. As noted in the proposal, organization’s systemic impact is likely many of these factors are also consistent with the category included in the framework is a factors that the Board considers in reviewing critical contributor to the losses to be directly related to its financial stability implications of proposed mergers imposed on the system given a firm’s interconnectedness vis-a`-vis other and acquisitions by banking organizations. See, e.g., default, and the equal weighting was financial institutions and the financial section 165 of the Dodd-Frank Act, Revised BCBS sector as a whole. The Board did not Document, and Guidance to Assess the Systemic proposed because each of the five Importance of Financial Institutions, Markets and factors contributes to the effect the receive any comments on this aspect of Instruments: Initial Considerations, Financial failure of a firm will have on financial the proposed rule and is adopting it in Stability Board, International Monetary Fund and the final rule without change. Bank for International Settlements, Report to G20 stability, and the particular score a firm Finance Ministers and Governors, October 2009; will receive on a given factor will 55 See, e.g., section 165 of the Dodd-Frank Act Identifying Large and Complex Banking Groups for depend on its unique characteristics Financial System Stability Assessment, ECB, in: and the Revised BCBS Document. Financial Stability Review, December 2006, pp. 56 See 12 CFR 217.10(c)(4). 131–139. 54 See 12 CFR 217.10(c)(4). 57 See 80 FR 39433.

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Under the final rule, comments on this aspect of the organization’s business, operational, interconnectedness is measured by proposed rule and is adopting it in the and structural complexity.59 Generally, intra-financial system assets, intra- final rule without change. the more complex a banking financial system liabilities, and 1. Assets under custody. The collapse organization is, the greater the expense securities outstanding as of December of a GSIB that holds assets on behalf of and time necessary to resolve it. Costly 31 of a given year. These indicators customers, particularly other financial resolutions can have negative cascading represent the major components of firms, could severely disrupt financial effects in the markets, including intra-financial system transactions and markets and have serious consequences disorderly unwinding of positions, fire- contractual relationships, and are for the domestic and global economies. sales of assets, disruption of services to broadly defined to capture the relevant The final rule measures assets under customers, and increased uncertainty in dimensions of these activities by a bank custody as the aggregate value of assets the markets. holding company. For the purpose of that a bank holding company holds as The Board sought comment on the intra-financial system assets and a custodian. For purposes of the final whether the three complexity indicators intra-financial system liabilities rule, a custodian is defined as a banking (notional amount of OTC derivatives indicators, financial institutions are organization that manages or transactions, Level 3 assets, and trading defined in the FR Y–15 instructions as administers the custody or safekeeping and AFS securities) appropriately reflect depository institutions, bank holding of stocks, debt securities, or other assets a bank holding company’s complexity, companies, securities dealers, insurance for institutional and private investors. and what alternative or additional companies, mutual funds, hedge funds, 2. Payments activity. The collapse of indicators might better reflect pension funds, investment banks, and a GSIB that processes a large volume of complexity and global systemic central counterparties. Central banks payments is likely to affect a large importance. One commenter argued that and multilateral development banks are number of customers, including it was appropriate to weight derivatives excluded, but state-owned commercial financial, non-financial, and retail exposures heavily in the complexity banks are included. customers. In the event of collapse, metric and that the metric should also these customers may be unable to take into account Level 2 assets as well C. Substitutability process payments and could experience as Level 3 assets as firms may be The proposal used substitutability as liquidity issues as a result. Additionally, incentivized to reclassify existing Level a category of systemic importance. The if a banking organization became unable 3 assets as Level 2 in order to achieve potential adverse systemic impact of the to distribute funds held, those funds a lower score. Commenters also argued material financial distress or failure of a could become inaccessible to the that resolvability should be taken into banking organization will depend in recipients, which could prevent those account more directly as part of the part on the degree to which other recipients from meeting obligations to complexity category when calibrating banking organizations are able to serve their creditors. the GSIB surcharges, for instance, by as substitutes in the event that the The final rule uses a bank holding making the GSIB surcharge inversely banking organization is unable to company’s share of payments made proportional to the difficulty of perform its role. Under the proposed through large-value payment systems resolution as judged by resolution plans. rule, three indicators were used to and through agent banks as an indicator It was further suggested that measure substitutability: Assets under of the company’s degree of systemic measurements of organizational and custody as of December 31 of a given importance within the context of operational complexity should be taken year, the total value of payments sent substitutability. Specifically, payments into account in the complexity over the calendar year, and the total activity is the value of all cash payments indicator. value of transactions in debt and equity sent via large-value payment systems, Resolvability and organizational markets underwritten during the along with the value of all cash complexity are important contributors calendar year. Relative to the other payments sent through an agent (e.g., to the potential systemic effects of a categories in the method 1 surcharge, using a correspondent or nostro GSIB default and the complexity the substitutability category had a account), over the calendar year in the indicators included in the methodology greater-than-intended impact on the currencies specified on the FR Y–15. seek to reflect this in a quantifiable way. assessment of systemic importance for 3. Underwritten transactions in debt These factors are reflected in several certain banking organizations that are and equity markets. The failure of a other of the standardized, objective dominant in the provision of asset GSIB with a large share of the global measures included in the rule, custody, payment systems, and market’s debt and equity underwriting including in Level 3 assets and cross- underwriting services. The Board could impede new securities issuances jurisdictional activity. The final rule therefore proposed to cap the maximum and potentially increase the cost of debt does not include more subjective, score for the substitutability category at and capital. In order to assess a bank qualitative measures of a bank holding 500 basis points (or 100 basis points, holding company’s significance in company’s organizational complexity after the 20 percent weighting factor is underwriting as compared to its peers, and resolvability, because those would applied) so that the substitutability the final rule measures underwriting rely on firm-specific, subjective category would not have a greater than activity as the aggregate value of equity judgments. The Board will monitor the intended impact on a bank holding and debt underwriting transactions of a evolution of indicator scores over time company’s global systemic score.58 This banking organization, conducted over and consider changes to the framework cap was also consistent with the the calendar year, as specified on the FR as appropriate. approach taken in the BCBS framework. Y–15. Additionally, commenters requested The following discusses how each of the D. Complexity that the Board give even greater weight three substitutability indicators will be to a GSIB’s overall complexity indicator measured and reported on the FR Y–15. The final rule uses complexity as a in calculating the surcharge because a The Board did not receive any category of systemic importance. The GSIB’s level of complexity might global systemic impact of a banking 58 See paragraph 19 of the Revised BCBS organization’s failure or distress should 59 See paragraph 25 of the Revised BCBS Document. be positively correlated to that Document.

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increase the firm’s probability of failure. greater the number of jurisdictions in would not reflect actual economic risk, While complexity is an important which a firm operates, the more difficult while other commenters expressed component for assessing systemic it would be to coordinate its resolution concern that the proposed weights importance, the rule is intended to and the more widespread the spillover could inappropriately incentivize firms capture multiple dimensions of a firm’s effects were it to fail. to rely more on certain forms of short- systemic footprint, including size, The Board did not receive any term wholesale funding. interconnectedness, substitutability, comments on this part of the proposed The weighting system for short-term cross-jurisdictional activity and reliance rule and is adopting it in the final rule wholesale funding liabilities was on short-term wholesale funding, all of without change. Under the final rule, designed to strike a balance between which are also important contributors to the two indicators included in this simplicity and risk-sensitivity. Short- the systemic impact caused by the category—cross-jurisdictional claims term wholesale funding liabilities with failure of a firm. and cross-jurisdictional liabilities— shorter residual maturities were As reflected in the FR Y–15, the final measure a bank holding company’s assigned higher weights, because such rule includes three indicators of global reach by considering its activity liabilities pose greater risk of runs and complexity: notional amount of OTC outside its home jurisdiction as attendant fire sales. The liability derivatives, Level 3 assets, and trading compared to the cross-jurisdictional categories used in the weighting system and AFS securities as of December 31 of activity of its peers. In particular, claims and the relative weights assigned to a given year. The indicators are include deposits and balances placed different liabilities generally aligned measured as follows: with other banking organizations, loans with the LCR, and reflected the 1. Notional amount of OTC and advances to banking organizations comments that the Board received in derivatives. A bank holding company’s and non-banks, and holdings of connection with that rulemaking. In OTC derivatives activity will be the securities. Liabilities include the framing the proposal and the final rule, aggregate notional amount of the bank liabilities of all offices of the same the Board also took into account studies holding company’s OTC derivative banking organization (headquarters as of fire sale risks in key short-term transactions that are cleared through a well as branches and subsidiaries in wholesale funding markets.60 central counterparty or settled different jurisdictions) to entities Commenters asserted that the rule bilaterally. outside of its home market. should take into account the amount of 2. Level 3 assets. Level 3 assets will long-term funding that a firm has be equal to the value of the assets that F. Use of Short-term Wholesale Funding relative to the amount of short-term the bank holding company measures at To determine its method 2 surcharge funding, suggesting that a firm’s fair value for purposes of its FR Y–9C under the proposal, a GSIB would have wholesale funding component should quarterly report (Schedule HC–Q, been required to compute its short-term be reduced if the firm relies to a greater column E). These are generally illiquid wholesale funding score. To compute its extent on more stable forms of funding. assets with fair values that cannot be short-term wholesale funding score, the However, while relative amounts of determined by observable data, such as GSIB would have first determined, on a long- and short-term funding may be market price signals or models. Instead, consolidated basis, the amount of its relevant in considering the probability the value of the Level 3 assets is short-term wholesale funding sources of a firm’s failure, the surcharge is calculated based on internal estimates with a remaining maturity of less than designed so that a firm’s capital or risk-adjusted value ranges by the one year for each business day of the requirement increases based on banking organization. Firms with high preceding calendar year. Then, the GSIB systemic losses assuming a default. levels of Level 3 assets would be would have applied weights to the Systemic losses in the event of default difficult to value in times of stress, short-term wholesale funding sources can be expected to generally increase in thereby negatively affecting market based on the remaining maturity of a proportion to the total amount of short- confidence in such firms and creating short-term wholesale funding source term funding a firm has used, rather the potential for a disorderly resolution and the asset class of any collateral than in proportion to the ratio of a firm’s process. backing the source. Next, the GSIB 3. Trading and AFS securities. A would have divided its weighted short- short-term wholesale funding to its total banking organization’s trading and AFS term wholesale funding amount by its funding. Accordingly, the final rule securities can cause a market average risk-weighted assets. Finally, to maintains the focus on a firm’s amount disturbance through mark-to-market arrive at its short-term wholesale of short-term wholesale funding rather losses and fire sales of assets in times of funding score, a GSIB would have than on the firm’s funding mix. distress. Specifically, a banking multiplied the ratio of its weighted 1. Components and Weighting of Short- organization’s write-down or sales of short-term wholesale funding amount term Wholesale Funding securities could drive down the prices over its average risk-weighted assets by The proposal identified five categories of these securities, which could cause a a fixed conversion factor (175). The of short-term wholesale funding spill-over effect that forces other holders following discussion describes the sources: secured funding transactions, of the same securities to experience proposed components of short-term unsecured wholesale funding, covered mark-to-market losses. Accordingly, the wholesale funding and proposed asset exchanges, short positions, final rule considers a bank holding weights, the division of the measure by brokered deposits. The funding sources company’s trading and AFS securities as average risk-weighted assets, and the were defined using terminology from an indicator of complexity. application of the proposed conversion factor. the LCR rule and aligned with items that E. Cross-jurisdictional Activity Several commenters requested are reported on the Board’s Complex The proposal used cross-jurisdictional additional information on the empirical Institution Liquidity Monitoring Report activity as a category of systemic analysis that supported the proposed on Form FR 2052a. Identified funding importance. Banking organizations with weights of different types of short-term 60 See, e.g., Begalle, Martin, McAndrews, and a large global presence are more difficult wholesale funding. For example, some McLaughlin, The Risk of Fire Sales in the Tri-Party and costly to resolve than purely commenters argued that the weights Repo Market, http://www.newyorkfed.org/research/ domestic institutions. Specifically, the were not sufficiently risk-sensitive and staff_reports/sr616.pdf (May 2013).

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sources would have qualified as short- Stability Board’s minimum margins from the release of assets held in term wholesale funding only if the framework for securities financing segregated accounts in connection with remaining maturity was less than 1 year. transactions does not apply to centrally wholesale deposits. cleared transactions. Several commenters suggested that a. Secured Funding Transaction Like the proposal, the final rule does the short-term wholesale funding The proposal aligned the definition of not differentiate between centrally calculation take into account the ‘‘secured funding transaction’’ with the cleared and non-centrally cleared amount of high quality liquid assets that definition of that term in the LCR rule. securities financing transactions. While firms are required to hold against As such, it included repurchase there may be some financial stability different funding sources under the transactions, securities lending benefits associated with central clearing LCR. For example, commenters cited transactions, secured funding from a of certain types of securities financing that unsecured deposits from financial Federal Reserve Bank or a foreign transactions, central clearing does not clients may only be used to fund Level central bank, Federal Home Loan Bank completely eliminate the risks posed by 1 high quality liquid assets because they advances, secured deposits, loans of securities financing transactions, and are assigned a 100 percent outflow collateral to effect customer short therefore it would not be appropriate at under the LCR. positions, and other secured wholesale this time to exclude centrally cleared In response to comments, the final funding arrangements. These funding securities financing transactions from rule reduces the weight assigned to sources were treated as short-term the short-term wholesale funding unsecured short-term wholesale wholesale funding, provided that they metric. Nor is it possible at this time to funding. The maximum weight for have a remaining maturity of less than measure the financial stability benefits wholesale deposits from non-financial one year, because counterparties are of central clearing with enough clients is reduced from 50 percent to 25 more likely to abruptly remove or cease precision to warrant specific reductions percent, while the maximum weight for to roll-over secured funding transactions in the weights assigned. other types of unsecured short-term as compared to longer-term funding. wholesale funding will be reduced from This behavior gives rise to cash outflows b. Unsecured Wholesale Funding 100 percent to 75 percent. This during periods of stress. Secured The proposal aligned the definition of reduction is intended to recognize the funding transactions secured by Level 1 ‘‘unsecured wholesale funding’’ with fact that firms often use wholesale liquid assets received a weight between the definition of that term in the LCR deposits and other unsecured types of 25 percent and 0 percent, secured rule. Such funding included the short-term wholesale funding to fund funding transactions secured by Level following: Wholesale deposits; federal relatively liquid assets, and are 2a liquid assets received a weight funds purchased; unsecured advances generally required by the LCR to do so. between 50 percent and 0 percent, from a public sector entity, sovereign The final rule does not reduce the secured funding transactions secured by entity, or U.S. government sponsored weight to 0, as the LCR does not fully Level 2b liquid assets received a weight enterprise; unsecured notes; bonds, or address the systemic risks of unsecured between 75 percent to 10 percent, and other unsecured debt securities issued short-term wholesale funding. The LCR secured funding transactions secured by by a GSIB (unless sold exclusively to generally permits the outflows from other assets received a weight between retail customers or counterparties); such liabilities to be offset using either 100 percent and 25 percent, depending brokered deposits from non-retail high quality liquid assets or the inflows on the remaining maturity. customers; and any other transaction from short-term claims with a matching Some commenters suggested that where an on-balance sheet unsecured maturity. In cases where a firm uses advances from the Federal Home Loan credit obligation has been contracted. short-term wholesale funding to fund a Banks be excluded from the short-term Under the proposal, unsecured short-term loan, a run by the firm’s wholesale funding factor, as they proved wholesale funding where the customer short-term creditors could force the firm a stable source of funding through the or counterparty is not a financial sector to quickly reduce the amount of credit crisis. Commenters also noted that entity (or a consolidated subsidiary of a it extends to its clients or Federal Home Loan Bank advances financial sector entity) received a weight counterparties. Those counterparties received preferable treatment in the between 50 percent and 0 percent, and could then be forced to rapidly liquidate LCR. The final rule treats Federal Home unsecured wholesale funding where the assets, including relatively illiquid Loan Bank borrowings in the same customer or counterparty is a financial assets, which might give rise to fire sale manner as borrowings from other sector entity or a consolidated effects.61 Given these possibilities, it counterparties in light of the purpose of subsidiary thereof received a weight would not be appropriate for the the GSIB surcharge, which is to reduce between 100 percent and 25 percent. calibration to assume that short-term systemic risk. Firm borrowings from the As evidenced in the financial crisis, funding liabilities that are assigned Federal Home Loan Banks tend to funding from wholesale counterparties relatively high outflows under the LCR increase during times of stress relative presents greater run risk to banking can only be used to fund high quality to Federal Home Loan Bank borrowings organizations during periods of stress as liquid assets. in normal times. compared to the same type of funding Several commenters contended that Some commenters argued that the provided by retail counterparties, the proposal inappropriately classified proposal should have differentiated because wholesale counterparties facing ‘‘excess custody deposits’’ as short-term between centrally cleared and non- financial distress are likely to withdraw wholesale funding. These commenters centrally cleared securities financing large amounts of wholesale funding in asserted that such deposits are a stable transactions, and that centrally cleared order to meet financial obligations. The source of funding in periods of market transactions should be either excluded proposal included in short-term stress, and are generally placed with from the short-term wholesale funding wholesale funding unsecured wholesale central banks or invested in high quality metric or assigned a lower weight. funding that is partially or fully covered Commenters noted that the BCBS’s large by deposit insurance, as such funding 61 The risk described here is similar to the risk exposures framework exempts certain poses run risks even when deposit associated with matched books of securities financing transactions, which is discussed in exposures to qualifying central insurance is present. It did not permit http://www.federalreserve.gov/newsevents/speech/ counterparties, and that the Financial the GSIB to reflect offsetting amounts tarullo20131122a.htm.

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liquid assets. Commenters also noted Several commenters argued that symmetrically unwind long and short that excess custody deposits arise from liabilities associated with both firm and positions, the closeout of client short operational servicing relationships and customer short transactions should be positions is ultimately controlled by a that it would be difficult in practice for excluded from the short-term wholesale firm’s clients and is, therefore, more custody banks to turn away client funding measure, or at a minimum, that unpredictable from the firm’s deposits of this type. Commenters the weight assigned to short positons perspective. This treatment aligns with argued that excess custody deposits should be reduced (e.g., to 25 percent). the LCR, under which client short should be excluded from the short-term With respect to firm short positions, positions in a given security are wholesale funding amount when these commenters argued that, because only assigned the same outflow rate as other are offset by riskless assets, subject to the firm has the ability to close out the secured funding transactions specific caps. position, firm short positions do not collateralized by that security. With Deposits described by commenters as give rise to the same type of run risk as respect to the argument that externally ‘‘excess custody deposits’’ do not other short-term wholesale funding covered short positions should be qualify as operational deposits because obligations. With respect to client short excluded because they do not provide they are not needed for utilizing the positions, commenters argued that funding to the firm, external securities operational service provided by the margin requirements create incentives borrowing is an asset on the firm’s bank holding company and, thus, are for clients to close long and short balance sheet that the firm or client not as stable. In response to the more positions simultaneously, and that the short position serves to fund. limited argument that a firm should be simultaneous unwinding of such allowed to offset its excess custody positions would mitigate funding risk. d. Covered Asset Exchanges deposit amount when it invests such Commenters also argued that the Board deposits in riskless assets, it would be should distinguish between short The proposed definition of short-term inconsistent to allow such an offset in positions based on whether they are wholesale funding also included the fair the context of only one particular type covered using firm or client assets market value of all assets that a GSIB of short-term wholesale funding (internally covered short positions) or must return in connection with liability. Further, implementing this assets borrowed from external sources transactions where it has provided a approach would require the Board to (externally covered short positions). non-cash asset of a given liquidity determine which assets should count as Commenters argued that shorts covered category to a counterparty in exchange ‘‘riskless.’’ On the one hand, a very by external borrowings do not provide for non-cash assets of a higher liquidity narrow approach—for example, one in funding to the banking organization category, and the GSIB and the which only central bank reserves are executing the short, and should counterparty agreed to return the assets considered riskless—could have therefore not be treated as short-term to each other at a future date. The distortive effects. On the other hand, a funding transactions. unwinding of such transactions could broader approach in which a wider In response to the comments received, negatively impact a GSIB’s funding variety of assets were deemed riskless the final rule excludes firm short profile in a period of stress to the extent would undermine the macroprudential positions involving Level 1 and Level that the unwinding of the transaction goals of the short-term wholesale 2A securities from the short-term requires the GSIB to obtain funding for funding component of the surcharge. wholesale funding definition, and a less liquid asset or security if the Nevertheless, excess custody deposits assigns a weight of 25 percent to firm counterparty is unwilling to roll over receive a lower weight under the final short positions involving Level 2B the transaction. Under the proposal, rule than they would have under the securities or securities that do not covered asset exchanges involving the proposal because of the reductions qualify as high quality liquid assets. future exchange of a Level 1 asset for a made in the final rule to the weights This weighting is appropriate because Level 2a asset were assigned a assigned to unsecured short-term the risk of runs from firm short maximum weight of 50 percent, while wholesale funding. positions is mitigated by the firm’s other covered asset exchanges would ability to control the closeout of the receive a maximum weight of 75 c. Short Positions short position. On the other hand, if a percent. The proposed rule treated short firm short position moves against a firm, Some commenters argued that this positions as short-term wholesale or if a securities lender demands that approach would result in the funding. Short positions were defined as the firm return the security that the firm assignment of excessive weights for a transaction where a bank holding borrowed to facilitate the short position, certain covered asset exchanges, and company has borrowed a security from there would be some liquidity risk. instead proposed that the weight for a a counterparty to sell to a second Hence, the final rule assigns a positive covered asset exchange should be based counterparty, and must return the weight to firm short positions involving on the incremental liquidity need security to the initial counterparty in Level 2B securities and securities that resulting from the exchange. the future. A short position involving a do not qualify as high quality liquid The final rule maintains the proposed certain security was assigned the same assets. treatment of covered asset exchanges. weight as a secured short-term The treatment of client short positions The alternative approach described by wholesale funding liability backed by in the final rule is unchanged from the commenters would be similar to the the same asset. In addition, the proposal proposal. While margin requirements LCR in providing differential treatment treated loans of collateral to a bank may create incentives for clients to for all combinations of asset types. holding company’s customer to effect However, the short-term wholesale short positions as secured funding percent, secured funding transactions secured by funding weighting approach of the final transactions, and weighted these Level 2a liquid assets received a weight between 50 percent and 0 percent, secured funding transactions rule takes a more simplified approach accordingly.62 secured by Level 2b liquid assets received a weight than the LCR by combining those asset between 75 percent to 10 percent, and secured exchanges that have similar 62 As noted above, under the proposal, secured funding transactions secured by other assets funding transactions secured by Level 1 liquid received a weight between 100 percent and 25 characteristics in a broader set of assets received a weight between 25 percent and 0 percent, depending on the remaining maturity. categories.

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e. Brokered Deposits and Brokered brokered sweep deposits provided by a firms that use the same amount of short- Sweep Deposits retail customer are assigned a maximum term wholesale funding would be The proposal characterized retail weight of 25 percent. Other brokered required to hold the same dollar amount brokered deposits and brokered sweep deposits and brokered sweep deposits of additional capital regardless of such deposits as short-term wholesale are assigned a maximum weight of 75. differences in business model. funding because these forms of funding These changes ensure that brokered While a firm that simultaneously have demonstrated volatility in times of deposits and brokered sweep deposits reduces its short-term wholesale stress, notwithstanding the presence of receive the same weight as other similar funding and risk-weighted assets may deposit insurance.63 These types of forms of unsecured short-term not see changes in its surcharge deposits can be easily moved from one wholesale funding. requirement, the same surcharge requirements as a percentage of risk- institution to another during times of 2. Dividing by Risk-Weighted Assets stress, as customers and counterparties weighted assets would require the firm Under the proposal, after calculating seek higher interest rates or seek to use to hold a lower dollar amount of its weighted short-term wholesale those funds for other purposes and on additional capital because the firm’s risk funding amount, the GSIB would have account of the incentives that third- weighted assets would also be lower. divided its weighted short-term party brokers have to provide the Similarly, while a firm that reduces its wholesale funding amount by its highest possible returns for their clients. risk-weighted assets but uses the same average risk-weighted assets, measured However, the proposed definition of amount of short-term wholesale funding as the four-quarter average of the firm’s short-term funding would exclude could see an increase in its surcharge total risk-weighted assets associated deposits from retail customers and requirement, the dollar amount of with the lower of its risk-based capital counterparties that are not brokered capital the firm would have to hold ratios as reported on its FR Y–9C for deposits or brokered sweep deposits, as would be reduced because of its lower each quarter of the previous year. these deposits are less likely to pose risk-weighted assets. Thus, these One commenter argued that the risk- outcomes are consistent with the view liquidity risks in times of stress. weighted assets denominator as part of Under the proposal, brokered deposits that the dollar amount of capital that a the short-term wholesale funding and brokered sweep deposits from retail firm should be required to hold because calculation should be reconsidered to customers or counterparties were of the short-term wholesale funding better incentivize prudent use of short- assigned a maximum weight of 50 component of the surcharge should be term wholesale funding. This percent, while other brokered deposits independent of that firm’s risk-weighted commenter noted that, given that and brokered sweep deposits received a assets characteristics. method 2 under the proposal uses a maximum weight of 100 percent. bank’s risk-weighted assets as the ratio 3. Application of Fixed Conversion Commenters contended that the Factor weighting system imposed capital denominator for short-term wholesale charges that were too high on all funding, if a GSIB simultaneously Under the proposal, to arrive at its brokered deposits and argued that the reduces short-term wholesale funding short-term wholesale funding score, a weighting system should make more and risk-weighted assets, its surcharge GSIB would have multiplied the ratio of fine-grained distinctions between would remain static as a percentage of its weighted short-term wholesale different types of brokered deposits and its risk-weighted assets. Similarly, the funding amount over its average risk- brokered sweep deposits. Commenters commenter noted that, if a GSIB reduces weighted assets by a fixed conversion also argued that the weighting system risk-weighted assets and does not factor (175). The conversion factor should distinguish between insured and reduce short-term wholesale funding, its accounted for the fact that, in contrast non-insured brokered deposits, brokered GSIB surcharge could increase as a to the other systemic indicators that retail and non-retail deposits, reciprocal percentage of risk-weighted assets. comprise a GSIB’s method 2 score, the As discussed in the preamble to the and non-reciprocal brokered deposits short-term wholesale funding score does proposal, consideration of a GSIB’s and brokered affiliate and non-affiliate not have an associated aggregate global short-term wholesale funding amount as based deposit sweep arrangements, and indicator. The conversion factor was a percentage of its risk-weighted assets should treat certain affiliate based intended to weight the short-term is an appropriate means of scaling in a deposit sweep arrangements similarly to wholesale funding amount such that the firm-specific manner a firm’s use of short-term wholesale funding score traditional retail deposits. short-term wholesale funding. This The final rule treats brokered deposits receives an equal weight as the other approach reflects the view that the as short-term wholesale funding because systemic indicators within method 2 systemic risks associated with a firm’s they are generally considered less stable (i.e., 20 percent), and is based upon use of short-term wholesale funding are than standard retail deposits. In order to estimates of short-term wholesale comparable regardless of the business preserve the relative simplicity of the funding levels at the eight bank holding model of the firm. The use of short-term short-term wholesale funding metric, companies currently identified as wholesale funding poses similar the final rule does not distinguish GSIBs. To calculate its method 2 score, systemic risks regardless of whether between different types of brokered a GSIB would add the short-term short-term wholesale funding is used by deposits and brokered sweep deposits. wholesale funding score to its other a firm that is predominantly engaged in In connection with reducing the weight systemic indicator scores, and multiply trading operations as opposed to a firm on unsecured wholesale deposits from by two. that combines large trading operations The final rule adopts the fixed non-financial and financial clients, with large commercial banking conversion factor, and combines the however, the final rule adjusts the activities, and regardless of whether a conversion factor with the proposed treatment of brokered deposits and firm uses short-term wholesale funding doubling. Accordingly, the score would brokered sweep deposits. Under the to fund securities inventory as opposed equal 350. This fixed conversion factor final rule, brokered deposits and to securities financing transaction was developed using 2013 data on 63 Brokered deposits from non-retail clients are matched book activity. Dividing short- short-term wholesale funding sources treated as unsecured wholesale funding, discussed term wholesale funding by risk- from the FR 2052a for the eight firms in section III.F.1.b of this preamble. weighted assets helps ensure that two currently identified as GSIBs under the

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proposed methodology, the average of definition in the final rule. The leverage ratio would apply to entities 2013 quarterly reported risk-weighted proposed revisions to Schedule G identified as GSIBs under the proposal. assets, and the year-end 2013 aggregate include (1) moving three line items to The Board did not receive any global indicator amounts for the size, different tiers, (2) adding an item to comments on this aspect of the interconnectedness, complexity, and capture firm short positions, (3) adding proposal, therefore, the final rule revises cross-jurisdictional activity systemic two automatically-calculated items, (4) the terminology used to identify the indicators. Using these data, the total adding one item derived from the FR Y– firms subject to the enhanced weighted basis points for the size, 9C, (5) deleting two items, and (6) supplementary leverage ratio standards interconnectedness, complexity, and collecting customer short positions as to reflect the proposed GSIB surcharge cross-jurisdictional activity systemic part of the secured funding totals. The framework. Specifically, the Board has indicator scores for the firms currently Federal Reserve estimates that these replaced the use of ‘‘covered BHC’’ with identified as GSIBs were calculated. minimal differences will not affect the firms identified as GSIBs using the Given that this figure is intended to burden estimates provided in the methodology of this rule within the comprise 80 percent of the method 2 separate July proposal. Thus, the burden prompt corrective action provisions of score, the weighted basis points estimates below reflect the numbers Regulation H (12 CFR part 208), as well accounting for the remaining 20 percent included in the separate FR Y–15 as within the Board’s regulatory capital of the method 2 score were determined. proposal. The comment period for the rule. The eight U.S. top-tier bank The fixed conversion factor was proposed changes to the FR Y–15 holding companies that were ‘‘covered determined by dividing the aggregate proposal would also be extended to 60 BHCs’’ under the enhanced estimated short-term wholesale funding days after the publication of the final supplementary leverage ratio rule’s amount by average risk weighted assets rule in the Federal Register, to allow definition are the same eight U.S. top- for the firms currently identified as commenters the opportunity to tier bank holding companies that are GSIBs and calculating the weighted comment on the full proposal, including identified as GSIBs under the final rule. basis points that would be necessary to changes to the short-term wholesale These changes simplify the Board’s make the short-term wholesale measure funding measure adopted in this final regulations by removing overlapping equal to 20 percent of the firm’s method rule. definitions, and do not result in a 2 score. Concurrently with this final notice, material change in the provisions A fixed conversion factor is intended the Federal Reserve is publishing the applicable to these bank holding to facilitate one of the goals of the instructions and reporting form companies. incorporation of short-term wholesale corresponding to the proposed changes funding into the GSIB surcharge to the FR Y–15 published in the Federal VI. Regulatory Analysis framework, which is to provide Register on July 9, 2015. The A. Paperwork Reduction Act (PRA) incentives for GSIBs to decrease their instructions and reporting form also use of this less stable form of funding. reflect the proposed changes to the In accordance with section 3512 of To the extent that a GSIB reduces its use short-term wholesale funding measure the Paperwork Reduction Act of 1995 of short-term wholesale funding, its described above. (44 U.S.C. 3501–3521) (PRA), the Board short-term wholesale funding score will may not conduct or sponsor, and a V. Modifications to Related Rules decline, even if GSIBs in the aggregate respondent is not required to respond reduce their use of short-term wholesale The Board, along with the FDIC and to, an information collection unless it funding. the OCC, issued a final rule imposing displays a currently valid Office of enhanced supplementary leverage ratio Management and Budget (OMB) control IV. Amendments to the FR Y–15 standards on certain bank holding number. The OMB control number is On July 9, 2015, the Board published companies and their subsidiary insured 7100–0352 and 7100–NEW. The Board for comment a proposal to modify the depository institutions.66 The enhanced reviewed the final rule under the FR Y–15, which, among other things, is supplementary leverage ratio standards authority delegated to the Board by the Board’s form for collecting data applied to U.S. top-tier bank holding OMB. needed to compute the GSIB surcharge. companies with more than $700 billion The final rule contains requirements The modification to this form would in total consolidated assets or more than subject to the PRA. The recordkeeping introduce a new schedule, Schedule G, $10 trillion in assets under custody requirements are found in sections 217.402 to capture a banking organization’s use (covered BHCs), as well as insured and 217.403. In connection with this final of short-term wholesale funding (FR Y– depository institution subsidiaries of the rule, the Board will issue a separate notice 15 proposal).64 The proposed definition covered BHCs. The enhanced standards amending the proposed revisions to the FR of ‘‘short-term wholesale funding’’ and imposed a 2 percent leverage ratio Y–15 published on July 9, 2015, to reflect the weights in the FR Y–15 proposal were buffer similar to the capital conservation final rule’s definition of short-term wholesale funding. based on the Board’s December 18, 2014 buffer above the minimum GSIB proposal.65 The final rule proposes supplementary leverage ratio Report title: Recordkeeping to incorporate updates into Schedule G requirement of 3 percent on the covered Requirements Associated with of the FR Y–15 to align it with the BHCs, and also required insured Regulation Q (Capital Adequacy of Bank depository institution subsidiaries of Holding Companies, Savings and Loan 64 See 80 FR 39433. The proposed changes would covered BHCs to maintain a Holding Companies, and State Member also (1) change the reporting frequency of the FR supplementary leverage ratio of at least Banks). Y–15 from annual to quarterly, (2) expand the 6 percent to be well capitalized under Agency form number: Reg Q. reporting panel to include certain savings and loan holding companies, (3) revise the calculation the prompt corrective action framework. OMB control number: 7100–NEW. methodology for the systemic indicators to align The Board proposed to revise the Frequency: Annual. with the Board’s regulatory capital rules and terminology and applicability of the Reporters: Bank holding companies, international accounting standards, (4) allow enhanced supplementary leverage ratio savings and loan holding companies, respondents to construct their own exchange rates for converting payments data; and (5) incorporate so that the enhanced supplementary and state member banks. instructional clarifications. Estimated annual reporting hours: 11 65 See 79 FR 75477 (December 18, 2014). 66 78 FR 24528 (May 1, 2014). hours.

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Estimated average hours per response: bank holding company).67 As of Crime, Currency, Global systemically 0.5 hours for each method. December 31, 2014, there were important bank, Insurance, Investments, Number of respondents: 13 for approximately 3,833 small bank holding Mortgages, Reporting and recordkeeping Identification of a global systemically companies. requirements, Securities. important BHC and 8 for GSIB The final rule applies to any top-tier 12 CFR Part 217 surcharge. U.S. bank holding company domiciled Abstract: A bank holding company is in the United States that is subject to the Administrative practice and a global systemically important BHC if advanced approaches rule pursuant to procedure, Banks, banking. Holding its method 1 score equals or exceeds 130 the regulatory capital rule that is not a companies, Reporting and basis points. A BHC must calculate its subsidiary of a foreign banking recordkeeping requirements, Securities. method 1 and method 2 scores on an organization. Bank holding companies annual basis by December 31 of each that are subject to the final rule Authority and Issuance year. therefore substantially exceed the $550 For the reasons set forth in the Section 217.402 (Identification of a million asset threshold at which a preamble, chapter II of title of the Code global systemically important BHC) banking entity would qualify as a small of Federal Regulations is amended as requires an advanced approaches BHC bank holding company. follows: to annually calculate its method 1 score, Because the final rule would only which is the sum of its systemic apply to advanced approaches BHCs, PART 208—MEMBERSHIP OF STATE indicator scores for the twelve systemic which generally have at least $250 BANKING INSTITUTIONS IN THE indicators set forth in Table 1 of the billion in assets or $10 billion in on- FEDERAL RESERVE SYSTEM final rule. The systemic indicator score balance-sheet foreign assets, the rule (REGULATION H) in basis points for a given systemic would not apply to any small bank indicator is equal to the ratio of the holding company for purposes of the ■ 1. The authority citation for part 208 amount of that systemic indicator, as RFA. Therefore, there are no significant continues to read as follows: reported on the bank holding company’s alternatives to the final rule that would Authority: 12 U.S.C. 24, 36, 92a, 93a, most recent FR Y–15; to the aggregate have less economic impact on small global indicator amount for that 248(a), 248(c), 321–338a, 371d, 461, 481–486, bank holding companies. As discussed 601, 611, 1814, 1816, 1818, 1820(d)(9), systemic indicator published by the above, the projected reporting, 1833(j), 1828(o), 1831, 1831o, 1831p–1, Board in the fourth quarter of that year; recordkeeping, and other compliance 1831r–1, 1831w, 1831x, 1835a, 1882, 2901– multiplied by 10,000; and multiplied by requirements of the rule are expected to 2907, 3105, 3310, 3331–3351, 3905–3909, the indicator weight corresponding to be small. The Board does not believe and 5371; 15 U.S.C. 78b, 78I(b), 78l(i), 780– the systemic indicator as set forth in that the rule duplicates, overlaps, or 4(c)(5), 78q, 78q–1, and 78w, 1681s, 1681w, 6801, and 6805; 31 U.S.C. 5318; 42 U.S.C. Table 1 of the final rule. conflicts with any other Federal rules. Section 217.403 (GSIB surcharge) 4012a, 4104a, 4104b, 4106 and 4128. In light of the foregoing, the Board does requires a BHC to annually calculate its not believe that the final rule would GSIB surcharge, which is the greater of Subpart D—Prompt Corrective Action have a significant economic impact on its method 1 and method 2 scores. The a substantial number of small entities. § 208.41 [Amended] method 2 score is equal to the sum of The Board sought comment on the global systemically important BHC’s ■ 2. Effective January 1, 2018, in whether the proposed rule would § 208.41: systemic indicator scores for the nine impose undue burdens on, or have ■ systemic indicators set forth in Table 1 unintended consequences for, small a. Paragraph (c) as added on May 1, of the final rule and the global organizations, and received no 2014 (79 FR 24540), is withdrawn. systemically important BHC’s short- comments on this aspect of the ■ b. The redesignation of paragraphs (c) term wholesale funding score. The proposal. In light of the foregoing, the through (j) as paragraphs (d) through (k) systemic indicator score is equal to the Board does not believe that the final on May 1, 2014 (79 FR 24540), is amount of the systemic indicator, as rule will have a significant impact on withdrawn. reported on the global systemically small entities. ■ c. Paragraphs (g) through (p) are important BHC’s most recent FR Y–15, redesignatged as paragraphs (h) through multiplied by the coefficient C. Plain Language (q). corresponding to the systemic indicator Section 722 of the Gramm-Leach- ■ set forth in Table 1 of the final rule. d. New paragraph (g) is added to read Bliley Act requires the Board to use as follows: B. Regulatory Flexibility Act Analysis plain language in all proposed and final rules published after January 1, 2000. § 208.41 Definitions for purposes of this The Board is providing a regulatory The Board has sought to present the subpart. flexibility analysis with respect to the final rule in a simple straightforward * * * * * final rule. The Regulatory Flexibility manner. The Board did not receive any Act, 5 U.S.C. 601 et seq. (RFA), (g) Global systemically important BHC comment on its use of plain language. generally requires that to provide a has the same meaning as in § 217.2 of regulatory flexibility analysis in List of Subjects Regulation Q (12 CFR 217.2). connection with a final rulemaking. As * * * * * 12 CFR Part 208 discussed above, the final rule is § 208.43 [Amended] designed to identify U.S. bank holding Accounting, Agriculture, Banks, companies that are GSIBs and to apply banking, Confidential business ■ 3. Effective January 1, 2018, in capital surcharges to the GSIBs that are information, Consumer protection, § 208.43 paragraphs (a)(2)(iv)(C) and calibrated to their systemic risk profiles. (c)(1)(iv) as added on May 1, 2014 (79 Under regulations issued by the Small 67 See 13 CFR 121.201. Effective July 14, 2014, the FR 24540) are amended by removing the Small Business Administration revised the size Business Administration, a small entity standards for banking organizations to $550 million words ‘‘covered BHC’’ and adding in includes a bank holding company with in assets from $500 million in assets. 79 FR 33647 their place the words ‘‘global assets of $550 million or less (small (June 12, 2014). systemically important BHC’’.

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PART 217—CAPITAL ADEQUACY OF § 217.1 [Amended] ■ 9. Effective December 1, 2015, in BANK HOLDING COMPANIES, ■ 6. Effective January 1, 2018, in § 217.11: SAVINGS AND LOAN HOLDING § 217.1, paragraph (f)(4) as revised on ■ a. The section heading is revised. COMPANIES, AND STATE MEMBER May 1, 2014 (79 FR 24540) is amended ■ b. Paragraph (a)(4)(ii) is revised. BANKS (REGULATION Q) by removing the words ‘‘covered ■ c. Table 1 to § 217.11 is revised. ■ BHC’’and adding the words ‘‘global 4. The authority citation for part 217 ■ continues to read as follows: systemically important BHC’’ in their d. Paragraph (c) is added. place. The revisions and addition read as Authority: 12 U.S.C. 248(a), 321–338a, ■ 7. Effective December 1, 2015, add 481–486, 1462a, 1467a, 1818, 1828, 1831n, follows: 1831o, 1831p–l, 1831w, 1835, 1844(b), 1851, definitions of ‘‘Global systemically 3904, 3906–3909, 4808, 5365, 5368, 5371. important BHC’’ and ‘‘GSIB surcharge’’ § 217.11 Capital conservation buffer, in alphabetical order, to read as follows: countercyclical capital buffer amount, and ■ 5. Effective December 1, 2015, revise GSIB surcharge. § 217.1, paragraph (f)(3), to read as § 217.2 Definitions. * * * * * follows: * * * * * (a) * * * § 217.1 Purpose, applicability, Global systemically important BHC reservations of authority, and timing. means a bank holding company that is (4) * * * * * * * * identified as a global systemically (ii) A Board-regulated institution with (f) * * * important BHC pursuant to § 217.402. a capital conservation buffer that is (3) Beginning on January 1, 2016, and GSIB surcharge means the capital greater than 2.5 percent plus 100 subject to the transition provisions in surcharge applicable to a global percent of its applicable countercyclical subpart G of this part, a Board-regulated systemically important BHC calculated capital buffer in accordance with institution is subject to limitations on pursuant to § 217.403. paragraph (b) of this section, and 100 distributions and discretionary bonus * * * * * percent of its applicable GSIB surcharge, payments with respect to its capital § 217.2 [Amended] in accordance with paragraph (c) of this conservation buffer, any applicable section, is not subject to a maximum countercyclical capital buffer amount, ■ 8. Effective January 1, 2018, in payout amount under this section. and any applicable GSIB surcharge, in § 217.2, the definition of ‘‘covered BHC’’ * * * * * accordance with subpart B of this part. published on May 1, 2014 (79 FR * * * * * 24540), is withdrawn.

TABLE 1 TO § 217.11—CALCULATION OF MAXIMUM PAYOUT AMOUNT

Maximum payout ratio Capital conservation buffer (as a percentage of eligible retained income)

Greater than 2.5 percent plus 100 percent of the Board-regulated institution’s applicable counter- No payout ratio limitation applies. cyclical capital buffer amount and 100 percent of the Board-regulated institution’s applicable GSIB surcharge. Less than or equal to 2.5 percent plus 100 percent of the Board-regulated institution’s applicable 60 percent. countercyclical capital buffer amount and 100 percent of the Board-regulated institution’s appli- cable GSIB surcharge, and greater than 1.875 percent plus 75 percent of the Board-regulated institution’s applicable countercyclical capital buffer amount and 75 percent of the Board-regu- lated institution’s applicable GSIB surcharge. Less than or equal to 1.875 percent plus 75 percent of the Board-regulated institution’s applicable 40 percent. countercyclical capital buffer amount and 75 percent of the Board-regulated institution’s appli- cable GSIB surcharge, and greater than 1.25 percent plus 50 percent of the Board-regulated institution’s applicable countercyclical capital buffer amount and 50 percent of the Board-regu- lated institution’s applicable GSIB surcharge. Less than or equal to 1.25 percent plus 50 percent of the Board-regulated institution’s applicable 20 percent. countercyclical capital buffer amount and 50 percent of the Board-regulated institution’s appli- cable GSIB surcharge, and greater than 0.625 percent plus 25 percent of the Board-regulated institution’s applicable countercyclical capital buffer amount and 25 percent of the Board-regu- lated institution’s applicable GSIB surcharge. Less than or equal to 0.625 percent plus 25 percent of the Board-regulated institution’s applicable 0 percent. countercyclical capital buffer amount and 25 percent of the Board-regulated institution’s appli- cable GSIB surcharge.

* * * * * § 217.11 [Amended] BHC’’ or ‘‘global systemically important BHC’s’’ respectively. (c) GSIB surcharge. A global ■ 10. Effective January 1, 2018, in systemically important BHC must use § 217.11: ■ b. Paragraph (c) added on May 1, 2014 its GSIB surcharge calculated in (79 FR 24540) is redesignated as ■ a. Paragraphs (a)(2)(v) and (a)(2)(vi), accordance with subpart H of this part paragraph (d). paragraph (c), and Table 2 added on for purposes of determining its May 1, 2014 (79 FR 24540) are amended ■ 11. Effective December 1, 2015, revise maximum payout ratio under Table 1 to by removing the words ‘‘covered BHC’’ § 217.300(a)(2) to read as follows: § 217.11. or ‘‘covered BHC’s’’ wherever they § 217.300 Transitions. appear and adding in their place the words ‘‘global systemically important (a) * * *

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(2) Notwithstanding § 217.11, December 31, 2018 a Board-regulated shall be determined as set forth in Table beginning January 1, 2016 through institution’s maximum payout ratio 1 to § 217.300.

TABLE 1 TO § 217.300

Maximum payout ratio Transition period Capital conservation buffer (as a percentage of eligible retained income)

Calendar year 2016 ...... Greater than 0.625 percent plus 25 percent of any applicable coun- No payout ratio limitation applies under this tercyclical capital buffer amount and 25 percent of any applicable section. GSIB surcharge. Less than or equal to 0.625 percent plus 25 percent of any applica- 60 percent. ble countercyclical capital buffer amount and 25 percent of any applicable GSIB surcharge, and greater than 0.469 percent plus 17.25 percent of any applicable countercyclical capital buffer amount and 17.25 percent of any applicable GSIB surcharge. Less than or equal to 0.469 percent plus 17.25 percent of any ap- 40 percent. plicable countercyclical capital buffer amount and 17.25 percent of any applicable GSIB surcharge, and greater than 0.313 per- cent plus 12.5 percent of any applicable countercyclical capital buffer amount and 12.5 percent of any applicable GSIB sur- charge. Less than or equal to 0.313 percent plus 12.5 percent of any appli- 20 percent. cable countercyclical capital buffer amount and 12.5 percent of any applicable GSIB surcharge, and greater than 0.156 percent plus 6.25 percent of any applicable countercyclical capital buffer amount and 6.25 percent of any applicable GSIB surcharge. Less than or equal to 0.156 percent plus 6.25 percent of any appli- 0 percent. cable countercyclical capital buffer amount and 6.25 percent of any applicable GSIB surcharge. Calendar year 2017 ...... Greater than 1.25 percent plus 50 percent of any applicable coun- No payout ratio limitation applies under this tercyclical capital buffer amount and 50 percent of any applicable section. GSIB surcharge. Less than or equal to 1.25 percent plus 50 percent of any applica- 60 percent. ble countercyclical capital buffer amount and 50 percent of any applicable GSIB surcharge, and greater than 0.938 percent plus 37.5 percent of any applicable countercyclical capital buffer amount and 37.5 percent of any applicable GSIB surcharge. Less than or equal to 0.938 percent plus 37.5 percent of any appli- 40 percent. cable countercyclical capital buffer amount and 37.5 percent of any applicable GSIB surcharge, and greater than 0.625 percent plus 25 percent of any applicable countercyclical capital buffer amount and 25 percent of any applicable GSIB surcharge. Less than or equal to 0.625 percent plus 25 percent of any applica- 20 percent. ble countercyclical capital buffer amount and 25 percent of any applicable GSIB surcharge, and greater than 0.313 percent plus 12.5 percent of any applicable countercyclical capital buffer amount and 12.5 percent of any applicable GSIB surcharge. Less than or equal to 0.313 percent plus 12.5 percent of any appli- 0 percent. cable countercyclical capital buffer amount and 12.5 percent of any applicable GSIB surcharge. Calendar year 2018 ...... Greater than 1.875 percent plus 75 percent of any applicable coun- No payout ratio limitation applies under this tercyclical capital buffer amount and 75 percent of any applicable section. GSIB surcharge. Less than or equal to 1.875 percent plus 75 percent of any applica- 60 percent. ble countercyclical capital buffer amount and 75 percent of any applicable GSIB surcharge, and greater than 1.406 percent plus 56.25 percent of any applicable countercyclical capital buffer amount and 56.25 percent of any applicable GSIB surcharge. Less than or equal to 1.406 percent plus 56.25 percent of any ap- 40 percent. plicable countercyclical capital buffer amount and 56.25 percent of any applicable GSIB surcharge, and greater than 0.938 per- cent plus 37.5 percent of any applicable countercyclical capital buffer amount and 37.5 percent of any applicable GSIB sur- charge. Less than or equal to 0.938 percent plus 37.5 percent of any appli- 20 percent. cable countercyclical capital buffer amount and 37.5 percent of any applicable GSIB surcharge, and greater than 0.469 percent plus 18.75 percent of any applicable countercyclical capital buffer amount and 18.75 percent of any applicable GSIB surcharge. Less than or equal to 0.469 percent plus 18.75 percent of any ap- 0 percent. plicable countercyclical capital buffer amount and 18.75 percent of any applicable GSIB surcharge.

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* * * * * requirements for bank holding procedures in 12 CFR part 263, subpart ■ 12. Effective December 1, 2015, add companies with more than $700 billion E. subpart H to part 217 to read as follows: in total assets or $10 trillion in assets under custody. A bank holding § 217.401 Definitions. Subpart H—Risk-based Capital Surcharge company that is an advanced As used in this subpart: for Global Systemically Important Bank (a) Aggregate global indicator amount Holding Companies approaches Board-regulated institution with more than $700 billion in total means, for each systemic indicator, the Sec. assets as reported on the FR Y–9C as of aggregate measure of that indicator, 217.400 Purpose and applicability. which is equal to the most recent annual 217.401 Definitions. December 31, 2014, or more than $10 trillion in assets under custody as dollar figure published by the Board 217.402 Identification as a global that represents the sum of systemic systemically important BHC. reported on the FR Y–15 as of December 31, 2014, must calculate its GSIB indicator values of: 217.403 GSIB surcharge. (1) The 75 largest global banking 217.404 Method 1 score. surcharge by December 31, 2015, and organizations, as measured by the Basel 217.405 Method 2 score. use that GSIB surcharge to determine its Committee on Banking Supervision; and 217.406 Short-term wholesale funding maximum payout ratio under Table 1 to score. (2) Any other banking organization § 217.11 beginning on January 1, 2016; that the Basel Committee on Banking Authority: 12 U.S.C. 5365. provided that for the GSIB surcharges Supervision includes in its sample total required to be calculated by December for that year. Subpart H—Risk-based Capital 31, 2015 and by December 31, 2016, the Surcharge for Global Systemically (b) Assets under custody means assets bank holding company must calculate held as a custodian on behalf of Important Bank Holding Companies its short-term wholesale funding score customers, as reported by the bank § 217.400 Purpose and applicability. using the average of its weighted short- holding company on the FR Y–15. term wholesale funding amounts (a) Purpose. This subpart implements (c) Average risk-weighted assets (defined in § 217.406(b)), calculated for provisions of section 165 of the Dodd- means the four-quarter average of the July 31, 2015, August 24, 2015, and Frank Act (12 U.S.C. 5365), by measure of total risk-weighted assets September 30, 2015. establishing a risk-based capital associated with the lower of the bank surcharge for global systemically (ii) Calculation and GSIB surcharge holding company’s common equity tier important bank holding companies. requirements for other advanced 1 risk-based capital ratios, as reported (b) Applicability—(1) General. This approaches Board-regulated on the bank holding company’s FR Y– subpart applies to a bank holding institutions. A bank holding company 9C for each quarter of the previous company that is an advanced that was an advanced approaches calendar year. approaches Board-regulated institution Board-regulated institution as of (d) Brokered deposit has the meaning and that is not a consolidated subsidiary December 31, 2014, and is not described set forth in 12 CFR 249.3. (e) Consolidated subsidiary has the of a bank holding company or a in paragraph (b)(3)(i) of this section meaning set forth in 12 CFR 249.3. consolidated subsidiary of a foreign must: (A) Determine whether it qualifies as (f) Covered asset exchange means a banking organization. transaction in which a bank holding (2) Effective date of calculation and a global systemically important BHC pursuant to § 217.402 by December 31, company has provided assets of a given surcharge requirements. Subject to the liquidity category to a counterparty in transition provisions in paragraph (b)(3) 2015; and (B) To the extent it qualifies as a exchange for assets of a higher liquidity of this section: category, and the bank holding company (i) A bank holding company that global systemically important BHC by and the counterparty agreed to return becomes an advanced approaches December 31, 2015, calculate its GSIB surcharge by December 31, 2016. The such assets to each other at a future Board-regulated institution must date. Categories of assets, in descending determine whether it qualifies as a GSIB surcharge calculated by December 31, 2016, shall equal the method 1 order of liquidity, are level 1 liquid global systemically important BHC assets, level 2A liquid assets, level 2B pursuant to § 217.402 by December 31 of surcharge (defined in § 217.403) of the bank holding company. liquid assets, and assets that are not the year immediately following the year HQLA. Covered asset exchanges do not (c) Reservation of authority. (1) The in which the bank holding company include secured funding transactions. becomes an advanced approaches Board may apply this subpart to any (g) Financial sector entity has the Board-regulated institution; and Board-regulated institution, in whole or meaning set forth in 12 CFR 249.3. (ii) A bank holding company that in part, by order of the Board based on (h) GAAP means generally accepted becomes a global systemically important the institution’s capital structure, size, accounting principles as used in the BHC pursuant to § 217.402 must level of complexity, risk profile, scope United States. calculate its GSIB surcharge pursuant to of operations, or financial condition. (i) High-quality liquid asset (HQLA) § 217.403 by December 31 of the year in (2) The Board may adjust the amount has the meaning set forth in 12 CFR which the bank holding company is of the GSIB surcharge applicable to a 249.3. identified as a global systemically global systemically important BHC, or (j) Cross-jurisdictional claims means important BHC and must use that GSIB extend or accelerate any compliance foreign claims on an ultimate risk basis, surcharge for purposes of determining date of this subpart, if the Board as reported by the bank holding its maximum payout ratio under Table determines that the adjustment, company on the FR Y–15. 1 to § 217.11 beginning on January 1 of extension, or acceleration is appropriate (k) Cross-jurisdictional liabilities the year that is immediately following in light of the capital structure, size, means total cross-jurisdictional the full calendar year after it is complexity, risk profile, and scope of liabilities, as reported by the bank identified as a global systemically operations of the global systemically holding company on the FR Y–15. important BHC. important BHC. In increasing the size of (l) Intra-financial system assets means (3) Transition provisions for the the GSIB surcharge for a global total intra-financial system assets, as calculation and surcharge systemically important BHC, the Board reported by the bank holding company requirements—(i) GSIB surcharge shall follow the notice and response on the FR Y–15.

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(m) Intra-financial system liabilities (bb) Underwritten transactions in debt amount set forth in Table 2 of this means total intra-financial system and equity markets means total section that corresponds to the global liabilities, as reported by the bank underwriting activity as reported by the systemically important BHC’s method 2 holding company on the FR Y–15. bank holding company on the FR Y–15. score, calculated pursuant to § 217.405. (n) Level 1 liquid asset is an asset that (cc) Unsecured wholesale funding has qualifies as a level 1 liquid asset the meaning set forth in 12 CFR 249.3. TABLE 2 TO § 217.403: METHOD 2 pursuant to 12 CFR 249.20(a). (dd) Wholesale customer or SURCHARGE (o) Level 2A liquid asset is an asset counterparty has the meaning set forth that qualifies as a level 2A liquid asset in 12 CFR 249.3. Method 2 score Method 2 surcharge pursuant to 12 CFR 249.20(b). (p) Level 2B liquid asset is an asset § 217.402 Identification as a global Below 130 ...... 0.0 percent. systemically important BHC. that qualifies as a level 2B liquid asset 130—229 ...... 1.0 percent. A bank holding company is a global 230—329 ...... 1.5 percent. pursuant to 12 CFR 249.20(c). 330—429 ...... 2.0 percent. (q) Level 3 assets means assets valued systemically important BHC if its method 1 score, as calculated under 430—529 ...... 2.5 percent. using Level 3 measurement inputs, as 530—629 ...... 3.0 percent. reported by the bank holding company § 217.404, equals or exceeds 130 basis 630—729 ...... 3.5 percent. on the FR Y–15. points. Subject to § 217.400(b)(2), a bank 730—829 ...... 4.0 percent. (r) Notional amount of over-the- holding company must calculate its 830—929 ...... 4.5 percent. counter (OTC) derivatives means the method 1 score on an annual basis by 930—1029 ...... 5.0 percent. total notional amount of OTC December 31 of each year. 1030—1129 ...... 5.5 percent. derivatives, as reported by the bank § 217.403 GSIB surcharge. (2) Higher method 2 surcharges. To holding company on the FR Y–15. (a) General. Subject to § 217.400(b)(2), the extent that the method 2 score of a (s) Operational deposit has the a company identified as a global global systemically important BHC meaning set forth in 12 CFR 249.3. systemically important BHC pursuant to equals or exceeds 1130 basis points, the (t) Payments activity means payments § 217.402 must calculate its GSIB method 2 surcharge equals the sum of: activity, as reported by the bank holding surcharge on an annual basis by (i) 6.5 percent; and company on the FR Y–15. December 31 of each year. For any given (ii) An additional 0.5 percent for each (u) Retail customer or counterparty 100 basis points that the global has the meaning set forth in 12 CFR year, subject to paragraph (d) of this section, the GSIB surcharge is equal to systemically important BHC’s score 249.3. exceeds 1130 basis points. (v) Secured funding transaction has the greater of: (1) The method 1 surcharge calculated (d) Effective date of an adjusted GSIB the meaning set forth in 12 CFR 249.3. in accordance with paragraph (b) of this surcharge—(1) Increase in GSIB (w) Securities outstanding means total surcharge. An increase in the GSIB securities outstanding, as reported by section; and (2) The method 2 surcharge calculated surcharge of a global systemically the bank holding company on the FR Y– in accordance with paragraph (c) of this important BHC will take effect (i.e., be 15. section. incorporated into the maximum payout (x) Short position means a transaction (b) Method 1 surcharge—(1) General. ratio under Table 1 to § 217.11) on in which a bank holding company has The method 1 surcharge of a global January 1 of the year that is one full borrowed or otherwise obtained a systemically important BHC is the calendar year after the increased GSIB security from a counterparty and sold amount set forth in Table 1 of this surcharge was calculated. that security, and the bank holding section that corresponds to the global (2) Decrease in GSIB surcharge. A company must return the security to the systemically important BHC’s method 1 decrease in the GSIB surcharge of a initial counterparty in the future. score, calculated pursuant to § 217.404. global systemically important BHC will (y) Systemic indicator includes the take effect (i.e., be incorporated into the following indicators included on the FR TABLE 1 TO § 217.403—METHOD 1 maximum payout ratio under Table 1 to Y–15: § 217.11) on January 1 of the year SURCHARGE (1) Total exposures; immediately following the calendar year (2) Intra-financial system assets; Method 1 score Method 1 surcharge in which the decreased GSIB surcharge (3) Intra-financial system liabilities; was calculated. (4) Securities outstanding; Below 130 ...... 0.0 percent. § 217.404 Method 1 score. (5) Payments activity; 130—229 ...... 1.0 percent. (6) Assets under custody; 230—329 ...... 1.5 percent. (a) General. A bank holding (7) Underwritten transactions in debt 330—429 ...... 2.0 percent. company’s method 1 score is the sum of and equity markets; 430—529 ...... 2.5 percent. its systemic indicator scores for the (8) Notional amount of over-the- 530—629 ...... 3.5 percent. twelve systemic indicators set forth counter (OTC) derivatives; Table 1 of this section, as determined (9) Trading and available-for-sale (2) Higher method 1 surcharges. To under paragraph (b) of this section. (AFS) securities; the extent that the method 1 score of a (b) Systemic indicator score. (1) (10) Level 3 assets; global systemically important BHC Except as provided in paragraph (b)(2) (11) Cross-jurisdictional claims; or equals or exceeds 630 basis points, the of this section, the systemic indicator (12) Cross-jurisdictional liabilities. method 1 surcharge equals the sum of: score in basis points for a given (z) Total exposures means total (i) 4.5 percent; and systemic indicator is equal to: exposures as reported by the bank (ii) An additional 1.0 percent for each (i) The ratio of: holding company on the FR Y–15. 100 basis points that the global (A) The amount of that systemic (aa) Trading and AFS securities systemically important BHC’s score indicator, as reported on the bank means total adjusted trading and exceeds 630 basis points. holding company’s most recent FR Y– available-for-sale securities as reported (c) Method 2 surcharge—(1) General. 15; to by the bank holding company on the FR The method 2 surcharge of a global (B) The aggregate global indicator Y–15. systemically important BHC is the amount for that systemic indicator

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published by the Board in the fourth indicator as set forth in Table 1 of this substitutability category (assets under quarter of that year; section. custody, payments systems activity, and (ii) Multiplied by 10,000; and (2) Maximum substitutability score. underwriting activity) will not exceed (iii) Multiplied by the indicator The sum of the systemic indicator 100 basis points. weight corresponding to the systemic scores for the indicators in the

TABLE 1 TO § 217.404—SYSTEMIC INDICATOR WEIGHTS

Category Systemic indicator Indicator weight

Size ...... Total exposures ...... 20 percent. Interconnectedness ...... Intra-financial system assets ...... 6.67 percent. Intra-financial system liabilities ...... 6.67 percent. Securities outstanding ...... 6.67 percent. Substitutability ...... Payments activity ...... 6.67 percent. Assets under custody ...... 6.67 percent. Underwritten transactions in debt and equity markets ...... 6.67 percent. Complexity ...... Notional amount of over-the-counter (OTC) derivatives ...... 6.67 percent. Trading and available-for-sale (AFS) securities ...... 6.67 percent. Level 3 assets ...... 6.67 percent. Cross-jurisdictional activity ...... Cross-jurisdictional claims ...... 10 percent. Cross-jurisdictional liabilities ...... 10 percent.

§ 217.405 Method 2 score. 1 of this section, as determined under (1) The amount of the systemic (a) General. A global systemically paragraph (b) of this section; and indicator, as reported on the global important BHC’s method 2 score is (ii) The global systemically important systemically important BHC’s most equal to: BHC’s short-term wholesale funding recent FR Y–15; (1) The sum of: score, calculated pursuant to § 217.406. (i) The global systemically important (b) Systemic indicator score. A global (2) Multiplied by the coefficient BHC’s systemic indicator scores for the systemically important BHC’s score for corresponding to the systemic indicator nine systemic indicators set forth Table a systemic indicator is equal to: set forth in Table 1 of this section.

TABLE 1 TO § 217.405—COEFFICIENTS FOR SYSTEMIC INDICATORS

Coefficient value Category Systemic indicator (%)

Size ...... Total exposures ...... 4.423 Interconnectedness ...... Intra-financial system assets ...... 12.007 Intra-financial system liabilities ...... 12.490 Securities outstanding ...... 9.056 Complexity ...... Notional amount of over-the-counter (OTC) derivatives ...... 0.155 Trading and available-for-sale (AFS) securities ...... 30.169 Level 3 assets ...... 161.177 Cross-jurisdictional activity ...... Cross-jurisdictional claims ...... 9.277 Cross-jurisdictional liabilities ...... 9.926

§ 217.406 Short-term wholesale funding consolidated basis for each business day holding company must return under a score. of the previous calendar year and covered asset exchange with a (a) General. Except as provided in weight the components of short-term remaining maturity of 1 year or less; § 217.400(b)(3)(ii), a global systemically wholesale funding in accordance with (iv) The fair value of an asset as important BHC’s short-term wholesale Table 1 of this section. determined under GAAP that the bank funding score is equal to: (2) Short-term wholesale funding holding company must return under a (1) The average of the global includes the following components, short position to the extent that the systemically important BHC’s weighted each as defined in paragraph (c) of this borrowed asset does not qualify as a short-term wholesale funding amount section: Level 1 liquid asset or a Level 2A liquid (defined in paragraph (b) of this (i) All funds that the bank holding asset; and section); company must pay under each secured (v) All brokered deposits held at the (2) Divided by the global systemically funding transaction, other than an bank holding company provided by a important BHC’s average risk-weighted operational deposit, with a remaining retail customer or counterparty. assets; and maturity of 1 year or less; (3) For purposes of calculating the (3) Multiplied by a fixed factor of 350. (ii) All funds that the bank holding short-term wholesale funding amount (b) Weighted short-term wholesale company must pay under all unsecured and the components thereof, a bank funding amount. (1) To calculate its wholesale funding, other than an holding company must assume that weighted short-term wholesale funding operational deposit, with a remaining each asset or transaction described in amount, a global systemically important maturity of 1 year or less; paragraph (b)(2) of this section matures BHC must calculate the amount of its (iii) The fair value of an asset as in accordance with the criteria set forth short-term wholesale funding on a determined under GAAP that a bank in 12 CFR 249.31.

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TABLE 1 TO § 217.406—SHORT-TERM WHOLESALE FUNDING COMPONENTS AND WEIGHTS

Remaining maturity of Remaining Remaining Remaining Component of short-term wholesale funding 30 days of less maturity of maturity of maturity of or no maturity 31 to 90 days 91 to 180 days 181 to 365 days

Category 1 ...... 25 percent ...... 10 percent ...... 0 percent ...... 0 percent. (1) Secured funding transaction secured by a level 1 liquid asset; (2) Unsecured wholesale funding where the customer or counterparty is not a financial sector entity or a consolidated subsidiary thereof; (3) Brokered deposits provided by a retail customer or counterparty; and (4) Short positions where the borrowed asset does not qualify as either a level 1 liquid asset or level 2A liquid asset. Category 2 ...... 50 percent ...... 25 percent ...... 10 percent ...... 0 percent. (1) Secured funding transaction secured by a level 2A liquid asset; and (2) Covered asset exchanges involving the future exchange of a Level 1 liquid asset for a Level 2A liquid asset. Category 3 ...... 75 percent ...... 50 percent ...... 25 percent ...... 10 percent. (1) Secured funding transaction secured by a level 2B liquid asset; (2) Covered asset exchanges (other than those described in Category 2); and (3) Unsecured wholesale funding (other than unsecured whole- sale funding described in Category 1). Category 4 ...... 100 percent ...... 75 percent ...... 50 percent ...... 25 percent. Any other component of short-term wholesale funding.

Note: The following Appendix will not given level of capital will fail. This white companies (GSIBs). Setting such an enhanced appear in the Code of Federal Regulations. paper estimates that relationship using capital standard entails (1) measuring the risk historical data on the probability that a large that a given GSIB’s failure poses to financial Appendix U.S. banking firm will experience losses of stability (that is, the GSIB’s systemic various sizes. Third, the expected impact footprint) and (2) estimating how much Calibrating the GSIB Surcharge framework requires the choice of a additional capital is needed to mitigate the Abstract ‘‘reference’’ bank holding company: A large, systemic risk posed by a firm with a given non-GSIB banking firm whose failure would systemic footprint. This white paper discusses how to not pose an outsized risk to the financial This white paper explains the calibration calibrate a capital surcharge that tracks the system. This white paper discusses several of the capital surcharges, based on the systemic footprint of a global systemically plausible choices of reference BHC. measures of each GSIB’s systemic footprint important bank holding company (GSIB). With these elements, it is possible to derived from the two methods described in There is no widely accepted calibration estimate a capital surcharge that would the GSIB surcharge final rule and discussed methodology for determining such a reduce a GSIB’s expected impact to that of a in detail in the preamble to the rule. Because surcharge. The white paper focuses on the non-GSIB reference BHC. For each choice of there is no single widely accepted framework ‘‘expected impact’’ framework, which is reference BHC, the white paper provides the for calibrating a GSIB surcharge, the Board based on each GSIB’s expected impact on the ranges of reasonable surcharges for each U.S. considered several potential approaches. financial system, understood as the harm it GSIB. This paper focuses on the ‘‘expected impact’’ would cause to the financial system were it framework, which is the most appropriate Introduction to fail multiplied by the probability that it approach for helping to scale the level of a will fail. Because a GSIB’s failure would The Dodd-Frank Wall Street Reform and capital surcharge. This paper explains the cause more harm than the failure of a non- Consumer Protection Act 68 mandates that expected impact framework in detail. It GSIB, a GSIB should hold enough capital to the Board of Governors of the Federal provides surcharge calibrations resulting lower its probability of failure so that its Reserve System adopt, among other from that framework under a range of expected impact is approximately equal to prudential measures, enhanced capital plausible assumptions, incorporating the that of a non-GSIB. standards to mitigate the risk posed to uncertainty that is inherent in the study of Applying the expected impact framework financial stability by systemically important rare events such as systemic banking failures. requires several elements. First, it requires a financial institutions (SIFIs). The Board has This paper also discusses, at a high level, two method for measuring the relative harm that already implemented a number of measures alternative calibration frameworks, and it a given banking firm’s failure would cause to designed to strengthen firms’ capital explains why neither seemed as useful as a the financial system—that is, its systemic positions in a manner consistent with the framework for the calibration of the GSIB footprint. This white paper uses the two Dodd-Frank Act’s requirement that such surcharge. methods as set forth in the GSIB surcharge measures increase in stringency based on the rule to quantify a firm’s systemic impact. systemic importance of the firm. Background Those methods look to attributes of a firm As part of this process, the Board has The failures and near-failures of SIFIs were that are drivers of its systemic importance, proposed a set of capital surcharges to be key drivers of the 2007–08 financial crisis such as size, interconnectedness, and cross- applied to the eight U.S. bank holding and the resulting recession. They were also border activity. Both methodologies use the companies (BHCs) of the greatest systemic key drivers of the public-sector response to most recent data available, and firms’ scores importance, which have been denominated the crisis, in which the United States will change over time as their systemic global systemically important bank holding government sought to prevent SIFI failures footprints change. Second, the expected through extraordinary measures such as the impact framework requires a means of 68 Public Law 111–203, 124 Stat. 1376 (July 21, Troubled Asset Relief Program. The estimating the probability that a firm with a 2010). experience of the crisis made clear that the

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failure of a SIFI during a period of stress can The Expected Impact Framework attributes in five categories: Size, do great damage to financial stability, that By definition, a GSIB’s failure would cause interconnectedness, complexity, cross- SIFIs themselves lack sufficient incentives to jurisdictional activity, and substitutability. greater harm to financial stability than the • take precautions against their own failures, failure of a banking organization that is not Method 2 replaces method 1’s that reliance on extraordinary government a GSIB.70 Thus, if all banking organizations substitutability category with a measure of a interventions going forward would invite are subject to the same risk-based capital firm’s reliance on short-term wholesale moral hazard and lead to competitive requirements and have similar probabilities funding. distortions, and that the pre-crisis regulatory of default, GSIBs will impose far greater The preambles to the GSIB surcharge focus on microprudential risks to individual systemic risks than non-GSIBs will. The notice of proposed rulemaking and final rule financial firms needed to be broadened to expected impact framework addresses this explain why these categories serve as proxies include threats to the overall stability of the discrepancy by subjecting GSIBs to capital for the systemic importance of a banking financial system. surcharges that are large enough that the organization (and thus the systemic harm In keeping with these lessons, post-crisis expected systemic loss from the failure of a that its failure would cause). They also regulatory reform has placed great weight on given GSIB better approximates the expected explain how the categories are weighted to ‘‘macroprudential’’ regulation, which seeks systemic loss from the failure of a BHC that produce scores under method 1 and method to address threats to financial stability. is large but is not a GSIB. (We will call this 2. Table 1 conveys the Board’s estimates of Section 165 of the Dodd-Frank Act pursues BHC the ‘‘reference BHC.’’) the current scores for the eight U.S. BHCs this goal by empowering the Board to The expected loss from a given firm’s with the highest scores. These scores are establish enhanced regulatory standards for estimated from the most recent available data ‘‘large, interconnected financial institutions’’ failure can be computed as the systemic losses that would occur if that firm failed, on firm-specific indicators of systemic that ‘‘are more stringent than the standards importance. The actual scores that will apply . . . applicable to [financial institutions] that discounted by the probability of its failure. Using the acronyms LGD (systemic loss given when the final rule takes effect may be do not present similar risks to the financial different and will depend on the future default), PD (probability of default), and EL stability of the United States’’ and ‘‘increase evolution of the firm-specific indicator (expected loss), this idea can be expressed as in stringency’’ in proportion to the systemic values. importance of the financial institution in follows: 69 EL = LGD * PD question. Section 165(b)(1)(A)(i) of the act TABLE 1—TOP EIGHT SCORES UNDER points to risk-based capital requirements as The goal of a GSIB surcharge is to equalize EACH METHOD a required type of enhanced regulatory the expected loss from a GSIB’s failure to the standard for SIFIs. expected loss from the failure of a non-GSIB reference BHC: Method 1 Method 2 Rationales for a GSIB Surcharge Firm score score The Dodd-Frank Act’s mandate that the ELGSIB = ELr Board adopt enhanced capital standards to By definition, a GSIB’s LGD is higher than JPMorgan Chase ...... 473 857 mitigate the risk posed to financial stability that of a non-GSIB. So to equalize EL Citigroup ...... 409 714 by certain large financial institutions between GSIBs and non-GSIBs, we must Bank of America ...... 311 559 provides the principal statutory impetus for require each GSIB to lower its PD, which we Goldman Sachs ...... 248 585 enhanced capital requirements for SIFIs. can do by requiring it to hold more capital. Morgan Stanley ...... 224 545 Because the failure of a SIFI could This implies that a GSIB must increase its Wells Fargo ...... 197 352 undermine financial stability and thus cause capital level to the extent necessary to reach Bank of New York far greater negative externalities than could a PD that is as many times lower than the PD Mellon ...... 149 213 the failure of a financial institution that is not of the reference BHC as its LGD is higher State Street ...... 146 275 systemically important, a probability of than the LGD of the reference BHC. (For default that would be acceptable for a non- Note: These estimates are based on data example, suppose that a particular GSIB’s sources described below. They may not reflect systemic firm may be unacceptably high for failure would cause twice as much loss as the the actual scores of a given firm. Method 1 es- a SIFI. Reducing the probability that a SIFI failure of the reference BHC. In that case, to timates were produced using indicator data re- will default reduces the risk to financial equalize EL between the two firms, we must ported by firms on the FR Y–15 as of Decem- stability. The most straightforward means of require the GSIB to hold enough additional ber 31, 2014, and global aggregate denomina- lowering a financial firm’s probability of capital that its PD is half that of the reference tors reported by the Basel Committee on default is to require it to hold a higher level BHC.) That determination requires the Banking Supervision (BCBS) as of December of capital relative to its risk-weighted assets following components, which we will 31, 2013. Method 2 estimates were produced using the same indicator data and the average than non-SIFIs are required to hold, thereby consider in turn: enabling it to absorb greater losses without of the global aggregate denominators reported 1. A method for creating ‘‘LGD scores’’ that by the BCBS as of the ends of 2012 and becoming insolvent. quantify the GSIBs’ LGDs 2013. For the eight U.S. BHCs with the high- There are also two secondary rationales for 2. An LGD score for the reference BHC est scores, the short-term wholesale funding enhanced capital standards for SIFIs. First, 3. A function relating a firm’s capital ratio to component of method 2 was estimated using higher capital requirements create incentives its PD liquidity data collected through the supervisory for SIFIs to shrink their systemic footprint, process and averaged across 2014. Unless which further reduces the risks these firms Quantifying GSIB LGDs otherwise specified, these data sources were pose to financial stability. Second, higher The final rule employs two methods to used to estimate all method 1 and method 2 scores included in this paper. capital requirements may offset any funding measure GSIB LGD: advantage that SIFIs have on account of being • Method 1 is based on the internationally This paper assumes that the relationships perceived as ‘‘too big to fail,’’ which reduces accepted GSIB surcharge framework, which between the scores produced by these the distortion in market competition caused produces a score derived from a firm’s methods and the firms’ systemic LGDs are by the perception and the potential that linear. In other words, it assumes that if firm counterparties may inappropriately shift 70 Cf. Dodd-Frank Act section 165(a)(1), which A’s score is twice as high as firm B’s score, more risk to SIFIs, thereby increasing the risk instructs the Board to apply more stringent then the systemic harms that would flow those firms pose to the financial system. prudential standards to certain large financial firms from firm A’s failure would be twice as great Increased capital makes GSIBs more resilient ‘‘[i]n order to prevent or mitigate risks to the as those that would flow from firm B’s in times of economic stress, and, by financial stability of the United States that could failure. increasing the capital cushion available to arise from the material financial distress or failure In fact, there is reason to believe that firm the firm, may afford the firm and supervisors . . . of large, interconnected financial institutions.’’ A’s failure would do more than twice as more time to address weaknesses at the firm As illustrated by the financial crisis that led much damage as firm B’s. (In other words, that could reverberate through the financial Congress to enact the Dodd-Frank Act, financial instability can lead to a wide range of social harms, there is reason to believe that the function system were the firm to fail. including the declines in employment and GDP relating the scores to systemic LGD increases growth that are associated with an economic at an increasing rate and is therefore non- 69 Section 165(a)(1). recession. linear.) The reason is that at least some of the

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components of the two methods appear to a line below which it may be argued that Option 3: The U.S. non-GSIB with the increase the systemic harms that would Congress did not believe that BHCs present highest LGD score. Another plausible result from a default at an increasing rate, sufficient ‘‘risks to the financial stability of reference BHC is the actual U.S. non-GSIB while none appears to increase the resulting the United States’’ to warrant mandatory BHC that comes closest to being a GSIB—in systemic harm at a decreasing rate. For enhanced prudential standards. It would other words, the U.S. non-GSIB with the example, because the negative price impact therefore be reasonable to require GSIBs to highest LGD score. Under method 1, the associated with the fire-sale liquidation of hold enough capital to reduce their expected highest score for a U.S. non-GSIB is 51 (the certain asset portfolios increases with the systemic loss to an amount equal to that of second-highest is 39). Under method 2, the size of the portfolio, systemic LGD appears to a $50 billion BHC that complies with the highest score for a U.S. non-GSIB is grow at an increasing rate with the size, generally applicable capital rules. Although estimated to be 85 (the second- and third- complexity, and short-term wholesale $50 billion BHCs could have a range of LGD highest scores are both estimated to be 75).75 funding metrics used in the methods. Thus, scores based upon their other attributes, Option 4: A hypothetical BHC at the cut- this paper’s assumption of a linear reasonable score estimates for a BHC of that off line between GSIBs and non-GSIBs. Given relationship simplifies the analysis while size are 3 under method 1 and 37 under 72 that BHCs are divided into GSIBs and non- likely resulting in surcharges lower than method 2. GSIBs based on their systemic footprint and those that would result if the relationship Option 2: A BHC with $250 billion in that LGD scores provide our metric for between scores and systemic LGD were assets. The Board’s implementation of the quantifying firms’ systemic footprints, there assumed to be non-linear. advanced approaches capital framework must be some LGD score under each method imposes enhanced requirements on banking The Reference BHC’s Systemic LGD Score that marks the ‘‘cut-off line’’ between GSIBs organizations with at least $250 billion in and non-GSIBs. The reference BHC’s score The reference BHC is a real or hypothetical consolidated assets. This level distinguishes BHC whose LGD will be used in our the largest and most internationally active should be no higher than this cut-off line, calculations. The expected impact framework U.S. banking organizations, which are subject since the goal of the expected impact requires that the reference BHC be a non- to other enhanced capital standards, framework is to lower each GSIB’s EL so that GSIB, but it leaves room for discretion as to including the countercyclical capital buffer it equals the EL of a non-GSIB. Under this the reference BHC’s identity and LGD score. and the supplementary leverage ratio.73 The option, the reference BHC’s score should also be no lower than the cut-off line, since if it Potential Approaches $250 billion threshold therefore provides another viable line for distinguishing were lower, then a non-GSIB firm could exist The reference BHC score can be viewed as between the large, complex, internationally that had a higher LGD and therefore (because simply the LGD score which, given the PD active banking organizations that pose a it would not be subject to a GSIB surcharge) associated with the generally applicable substantial threat to financial stability and a higher EL than GSIBs are permitted to have. capital requirements, produces the highest those that do not pose such a substantial Under this reasoning, the reference BHC EL that is consistent with the purposes and threat. Although $250 billion BHCs could should have an LGD score that is exactly on mandate of the Dodd-Frank Act. The effect of have a range of LGD scores based upon their the cut-off line between GSIBs and non- setting the reference BHC score to that LGD other attributes, reasonable score estimates GSIBs. That is, it should be just on the cusp score would be to hold all GSIBs to that EL for a BHC of that size are 23 under method of being a GSIB. level. The purpose of the Dodd-Frank Act is 1 and 60 under method 2.74 What LGD score marks the cut-off line ‘‘to prevent or mitigate risks to the financial between GSIB and non-GSIB? With respect to stability of the United States that could arise method 1, figure 1 shows that there is a large from the material financial distress or failure, 72 These estimates were produced by plotting the estimated scores of six U.S. BHCs with total assets drop-off between the eighth-highest score or ongoing activities, of large, interconnected (146) and the ninth-highest score (51). 71 between $50 billion and $100 billion against their financial institutions.’’ The following total assets, running a linear regression, and finding Drawing the cut-off line within this target options appear to be conceptually plausible the score implied by the regression for a $50 billion range is reasonable because firms with scores ways of identifying the reference BHC for firm. These firms’ scores were estimated using data at or below 51 are much closer in size and purposes of establishing a capital from the sources described in the general note to complexity to financial firms that have been requirement for GSIBs that lowers the table 1, except that figures for the short-term resolved in an orderly fashion than they are expected loss from the failure of a GSIB to wholesale funding component of method 2 were to the largest financial firms, which have the level associated with the failure of a non- estimated using FR Y–9C data from the first quarter of 2015 and Federal Reserve quantitative impact scores between three and nine times as high GSIB. and are significantly larger and more Option 1: A BHC with $50 billion in assets. study (QIS) data as of the fourth quarter of 2014. Scores for firms with total assets below $50 billion complex. We will choose a cut-off line at 130, Section 165(a)(1) of the Dodd-Frank Act calls were not estimated (and therefore were not which is at the high end of the target range. for the Board to ‘‘establish prudential included in the regression analysis) because the This choice is appropriate because it aligns standards for . . . bank holding companies Federal Reserve does not collect as much data from with international standards and facilitates with total consolidated assets equal to or those firms. comparability among jurisdictions. It also 73 greater than $50,000,000,000 that (A) are Advanced approaches banking organizations establishes minimum capital surcharges that more stringent than the standards . . . also include firms with on-balance sheet foreign are consistent internationally. applicable to . . . bank holding companies exposures of $10 billion or more. that do not present similar risks to the 74 These estimates were produced by applying the financial stability of the United States; and approach described in footnote 5 to 10 U.S BHCs 75 These estimates were produced using data from (B) increase in stringency.’’ Section 165 is the with total assets between $100 billion and $400 the sources described in the general note to table principal statutory basis for the GSIB billion. Bank of New York Mellon and State Street, 1, except that figures for the short-term wholesale which have total assets within that range, were funding component of method 2 were estimated surcharge, and its $50 billion figure provides excluded from the sample because they are GSIBs using FR Y–9C data from the first quarter of 2015 and the expected impact framework assumes that and Federal Reserve quantitative impact study (QIS) 71 Section 165(a)(1). the reference BHC is a non-GSIB. data as of the fourth quarter of 2014.

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A similar approach can be used under which is labeled BHC A. (There is also a large lower threshold is appropriate in light of the method 2. Figure 2 depicts the estimated gap between Morgan Stanley’s score and fact that method 2 uses a measure of short- method 2 scores of the eleven U.S. BHCs Wells Fargo’s, but the former is only about term wholesale funding in place of with the highest estimated scores. A large 154 percent of the latter.) This approach also substitutability. Specifically, short-term drop-off in the distribution of scores with a generates the same list of eight U.S. GSIBs as wholesale funding is believed to have significant difference in character of firms is produced by method 1. In selecting a occurs between firms with scores above 200 specific line within this range, we considered particularly strong contagion effects that and firms with scores below 100. the statutory mandate to protect U.S. could more easily lead to major systemic The range between Bank of New York financial stability, which argues for a method events, both through the freezing of credit Mellon and the next-highest-scoring firm is of calculating surcharges that addresses the markets and through asset fire sales. These the most rational place to draw the line importance of mitigating the failure of U.S. systemic impacts support the choice of a between GSIBs and non-GSIBs: Bank of New GSIBs, which are among the most systemic threshold at the lower end of the range for York Mellon’s score is roughly 251 percent in the world. This would suggest a cut-off method 2. of the score of the next highest-scoring firm, line at the lower end of the target range. The

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Although the failure of a firm with the quarter rolling basis.76 RORWA is defined as under Basel III will be lower than the systemic footprint of BHC A poses a smaller after-tax net income divided by risk-weighted historical, pre-Basel III trend. Similarly, post- risk to financial stability than does the failure assets. Return on risk-weighted assets crisis liquidity initiatives (the liquidity of one of the eight GSIBs, it is nonetheless provides a better measure of risk than return coverage ratio and the net stable funding possible that the failure of a very large on total assets would, because the risk ratio) should reduce the default probabilities banking organization like BHC A, BHC B, or weightings have been calibrated to ensure of large banking firms and the associated risk BHC C could have a negative effect on that two portfolios with the same risk- of fire sales. Together, these reforms may financial stability, particularly during a weighted assets value contain roughly the lessen a GSIB’s probability of default and period of industry-wide stress such as same amount of risk, whereas two portfolios potentially imply a lower GSIB surcharge. occurred during the 2007–08 financial crisis. with total assets of the same value can On the other hand, however, extraordinary This provides additional support for our contain very different amounts of risk government interventions during the time decision to draw the line between GSIBs and depending on the asset classes in question. period of the dataset (particularly in response non-GSIBs at 100 points, at the lower end of We select this date range and set of firms to the 2007–08 financial crisis) undoubtedly the range between Bank of New York Mellon to provide a large sample size while focusing prevented or reduced large losses that many and BHC A. on data from the relatively recent past and of the largest BHCs would otherwise have Note that we have set our method 2 from very large firms, which are more suffered. Because one core purpose of post- reference BHC score near the bottom of the germane to our purposes. Data from the past crisis reform is to avoid the need for such target range and our method 1 reference BHC three decades may be an imperfect predictor extraordinary interventions in the future, the score near the top of the target range. Due to of future trends, as there are factors that GSIB surcharge should be calibrated using the choice of reference BHC in method 2, suggest that default probabilities in the future data that include the severe losses that would method 2 is likely to result in higher may be either lower or higher than would be have materialized in the absence of such surcharges than method 1. Calculating predicted on the basis of the historical data. intervention; because the interventions in surcharges under method 1 in part recognizes On the one hand, these data do not reflect fact occurred, using historical RORWA data the international standards applied globally many of the regulatory reforms implemented may lead us to underestimate the probability to GSIBs. Using a globally consistent in the wake of the 2007–08 financial crisis approach for establishing a baseline of default associated with a given capital that are likely to reduce the probability of surcharge has benefits for the stability of the level. In short, there are reasons to believe very large losses and therefore the probability entire financial system, which is globally that the historical data underestimate the of default associated with a given capital interconnected. At the same time, using an future trend, and there are reasons to believe level. For example, the Basel 2.5 and Basel approach that results in higher surcharges for that those data overestimate the future trend. III capital reforms are intended to increase most GSIBs is consistent with the statutory Although the extent of the over- and the risk-sensitivity of the risk weightings mandate to protect financial stability in the underestimations cannot be rigorously used to measure risk-weighted assets, which United States and with the risks presented by quantified, a reasonable assumption is that suggests that the risk of losses associated 77 short-term wholesale funding. they roughly cancel each other out. with each dollar of risk-weighted assets Capital and Probability of Default 77 The concept of risk aversion provides To implement the expected impact 76 Because Basel I risk-weighted assets data are additional support for this assumption. While the approach, we also need a function that only available from 1996 onward, risk-weighted failure of a GSIB in any given year is unlikely, the relates capital ratio increases to reductions in assets data for earlier years are estimated by back- costs from such a failure to financial stability could probability of default. First, we use historical fitting the post-1996 ratio between risk-weighted be severe. By contrast, any costs from higher capital data drawn from FR Y–9C regulatory reports assets and total assets onto pre-1996 total assets surcharges will be distributed more evenly among data. See Andrew Kuritzkes and Til Schuermann different states of the world. Presumably society is from the second quarter of 1987 through the (2008), ‘‘What We Know, Don’t Know, and Can’t risk-averse and, in a close case, would prefer the fourth quarter of 2014 to plot the probability Know about Bank Risk: A View from the Trenches,’’ latter set of costs to the former. While this paper distribution of returns on risk-weighted University of Pennsylvania, Financial Institutions does not attempt to incorporate risk aversion into assets (RORWA) for the 50 largest BHCs Center paper #06–05, http://fic.wharton.upenn.edu/ its quantitative analysis, that concept does provide (determined as of each quarter), on a four- fic/papers/06/0605.pdf. additional support for the decision not to discount

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Figure 3 displays the estimated quantiles of than that around less extreme quantiles. This of the associated probability. The ROWRA from 0.1 to 5.0. The sample is because actual events relating to more specification of the regression function is quantiles are represented by black dots. The extreme quantiles occur much less frequently provided in the figure which reports both the dashed lines above and below the estimated and are, as a result, subject to considerably estimated coefficients of the regression quantiles represent a 99 percent confidence more uncertainty. The solid line that passes function and the standard errors, in interval for each estimated quantile. As through the black dots is an estimated shown in the figure, the uncertainty around regression function that relates the estimated parentheses, associated with the estimated more extreme quantiles is substantially larger value of the quantile to the natural logarithm coefficients.

Figure 3 shows that RORWA is negative logarithmic regression on this RORWA The inverse of this function, which we will (that is, the firm experiences a loss) more probability distribution (with RORWA label p(RORWA), gives the probability that a than 5 percent of the time, with most losses represented by y and the percentile particular realization of RORWA, R˜ will be amounting to less than 4 percent of risk- associated with that RORWA by x) is: less than or equal to a specified level over a weighted assets. The formula for the y = 2.18 * ln(x) ¥ 4.36 given year. That function is:

Next, assume that a BHC becomes non- should not depend to a significant extent on are looking for the probability that k will fall viable and consequently defaults if and only the identity of the entity holding the asset or to f, that is, the probability that k + RORWA if its capital ratio k (measured in terms of on that entity’s capital ratio. We can now = f. Solving for RORWA, we get RORWA = common equity tier 1 capital, or CET1) falls estimate the probability that a BHC with f ¥ k, which we can then plug into the to some failure point f. (Note that k is a capital level k will suffer sufficiently severe function above to find the probability of variable and f is a constant.) We assume that losses (that is, a negative RORWA of default as a function of the capital ratio k: 78 RORWA and k are independent, which is sufficiently great magnitude) to bring its appropriate because the return on an asset capital ratio down to the failure point f. We

the historical probability of large losses in light of measured under the risk weightings of Basel I or of correct conversion factor for converting between post-crisis regulatory reforms. Basel III. This treatment makes sense because the them. 78 This paper treats dollars of risk-weighted assets two systems produce roughly comparable results as equivalent regardless of whether they are and there does not appear to be any objectively

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Application on top of, which means that we do not need be the GSIB surcharge that a given GSIB is We can now create a function that takes as to make any assumption about the value of required to hold on top of kr. Thus, the its input a GSIB’s LGD score and produces these two quantities. Recall that the goal of reference BHC’s probability of default will be a capital surcharge for that GSIB. In the the expected impact framework is to make p(kr) and each GSIB’s probability of default the following equation true: course of doing so, we will find that the will be p(kr + kGSIB), with the value of kGSIB resulting surcharges are invariant to both the ELGSIB = ELg varying from firm to firm. Because EL = LGD failure point f and the generally applicable Let kr be the generally applicable capital * PD, the equation above can be expressed as: capital level that the GSIB surcharge is held level held by the reference BHC, and let kGSIB LGDGSIB * p(kg + kGSIB) = LGDg * p(kg)

The appropriate surcharge for a given GSIB coefficient of roughly 2.18; however, there is coefficient is indicative of the RORWA depends only on that GSIB’s LGD score and uncertainty regarding the true population distribution that will obtain in the future. As the chosen reference BHC’s LGD score. value of this coefficient. There are two discussed above, there are reasons to believe Indeed, the surcharge does not even depend important sources of uncertainty. First, the that the future RORWA distribution will on the particular values of those two scores, estimated value of 2.18 is a statistical differ to some extent from the historical but only on the ratio between them. Thus, estimate that is subject to sampling distribution. Accordingly, the 99 percent doubling, halving, or otherwise multiplying uncertainty. This sampling uncertainty is confidence interval for the slope coefficient both scores by the same constant will not characterized in terms of the standard error that is presented above is a lower bound to affect the resulting surcharges. And since of the coefficient estimate, which is 0.11 (as the true degree of uncertainty that should be each of our reference BHC options was reflected in parentheses beneath the point attached to the slope coefficient. determined in relation to the LGD scores of estimate in figure 3). Under standard We can now use the GSIB surcharge actual firms, any multiplication applied to assumptions, the estimated value of the slope formula and 99 percent confidence interval the calculation of the firms’ LGD scores will coefficient is approximately normally presented above to compute the ranges of also carry over to the resulting reference BHC distributed with a mean of 2.18 and a capital surcharges that would obtain for each scores. standard deviation of 0.11. A 99 percent of the reference BHC options discussed Note that the specific GSIB surcharge confidence interval for the slope coefficient above. Table 2 presents method 1 surcharge depends on the slope coefficient that ranges from approximately 1.9 to 2.4. ranges and table 3 presents method 2 determines how the quantiles of the RORWA Second, there is additional uncertainty surcharge ranges. The low estimate in each distribution change as the probability around the slope coefficient that arises from cell was computed using the surcharge changes. The empirical analysis presented in uncertainty as to whether the data sample formula above with the value of the slope figure 3 suggests a value for the slope used to construct the estimated slope coefficient at the low end of the 99 percent

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confidence interval (1.9); the high end was coefficient at the high end of that interval computed using the value of the slope (2.4).

TABLE 2—METHOD 1 SURCHARGE RANGES FOR EACH REFERENCE BHC (%)

$50 Billion $250 Billion Non-GSIB with Reference BHC Firm Method 1 score reference BHC reference BHC highest LGD LGD = 130

JPMorgan Chase ...... 473 9.6, 12.4 5.7, 7.4 4.2, 5.5 2.5, 3.2 Citigroup ...... 409 9.3, 12.1 5.5, 7.1 4.0, 5.1 2.2, 2.8 Bank of America ...... 311 8.8, 11.4 4.9, 6.4 3.4, 4.4 1.7, 2.1 Goldman Sachs ...... 248 8.4, 10.9 4.5, 5.8 3.0, 3.9 1.2, 1.6 Morgan Stanley ...... 224 8.2, 10.6 4.3, 5.6 2.8, 3.6 1.0, 1.3 Wells Fargo ...... 197 8.0, 10.3 4.1, 5.3 2.6, 3.3 0.8, 1.0 Bank of New York Mellon ...... 149 7.4, 9.6 3.6, 4.6 2.0, 2.6 0.3, 0.3 State Street ...... 146 7.4, 9.6 3.5, 4.5 2.0, 2.6 0.2, 0.3 Reference score ...... 3 23 51 130

TABLE 3—METHOD 2 SURCHARGE RANGES FOR EACH REFERENCE BHC (%)

$50 Billion $250 Billion Non-GSIB with Reference BHC Firm Method 2 score reference BHC reference BHC highest LGD LGD = 100

JPMorgan Chase ...... 857 6.0, 7.7 5.1, 6.5 4.4, 5.7 4.1, 5.3 Citigroup ...... 714 5.6, 7.3 4.7, 6.1 4.0, 5.2 3.7, 4.8 Goldman Sachs ...... 585 5.2, 6.8 4.3, 5.6 3.7, 4.7 3.4, 4.3 Bank of America ...... 559 5.2, 6.7 4.2, 5.5 3.6, 4.6 3.3, 4.2 Morgan Stanley ...... 545 5.1, 6.6 4.2, 5.4 3.5, 4.6 3.2, 4.2 Wells Fargo ...... 352 4.3, 5.5 3.4, 4.4 2.7, 3.5 2.4, 3.1 State Street ...... 275 3.8, 4.9 2.9, 3.7 2.2, 2.9 1.9, 2.5 Bank of New York Mellon ...... 213 3.3, 4.3 2.4, 3.1 1.7, 2.3 1.4, 1.9 Reference score ...... 37 60 85 100

Surcharge Bands 329 points, and so on. These surcharge bands losses of the magnitude necessary to cause The analysis above suggests a range of fall in the lower end of the range suggested the failure of a firm that has a very large capital surcharges for a given LGD score. To by the results shown in tables 1 and 2. systemic footprint and is therefore already obtain a simple and easy-to-implement The analysis above suggests that the subject to a surcharge of (for example) 4.0 surcharge rule, we will assign surcharges to surcharge should depend on the logarithm of percent. This paucity of observations means discrete ‘‘bands’’ of scores so that the the LGD score. The logarithmic function that our estimation of the probability of such surcharge for a given score falls in the lower could justify bands that are smaller for lower losses is substantially more uncertain than is end of the range suggested by the results LGD scores and larger for higher LGD scores. the case with smaller losses. This is reflected shown in tables 2 and 3. The bands will be For the following reasons, however, fixed- in the magnitude of the standard error range chosen so that the surcharges for each band width bands are more appropriate than associated with our regression analysis, rise in increments of one half of a percentage expanding-width bands. which is large and rapidly expanding for point. This sizing will ensure that modest First, fixed-width surcharge bands high LGD scores. Given this uncertainty, as changes in a firm’s systemic indicators will facilitate capital planning for less-systemic well as the Board’s Dodd-Frank Act mandate generally not cause a change in its surcharge, firms, which would otherwise be subject to to impose prudential standards that mitigate while at the same time maintaining a a larger number of narrower bands. Such risks to financial stability, we should impose reasonable level of sensitivity to changes in small bands could result in frequent and in a higher threshold of certainty on the a firm’s systemic footprint. Because small some cases unforeseen changes in those sufficiency of capital requirements for the changes in a firm’s score will generally not firms’ surcharges, which could unnecessarily most systemically important financial cause a change to the firm’s surcharge, using complicate capital planning and is contrary institutions. surcharge bands will facilitate capital to the objective of ensuring that relatively Two further shortcomings of the RORWA planning by firms subject to the rule. small changes in a firm’s score generally will dataset make the case for rejecting ever- We will omit the surcharge band associated not alter the firm’s surcharge. expanding bands even stronger. First, the with a 0.5 percent surcharge. This tailoring Second, fixed-width surcharge bands are frequency of extremely large losses would for the least-systemic band of scores above appropriate in light of several concerns about likely have been higher in the absence of the reference BHC score is rational in light the RORWA dataset and the relationship extraordinary government actions taken to of the fixed costs of imposing a firm-specific between systemic indicators and systemic protect financial stability, especially during capital surcharge; these costs are likely not footprint that are particularly relevant to the the 2007–08 financial crisis. As discussed worth incurring where only a small surcharge most systemically important financial above, the GSIB surcharge should be set on would be imposed. (The internationally institutions. Larger surcharge bands for the the assumption that extraordinary accepted GSIB surcharge framework similarly most systemically important firms would interventions will not recur in the future (in lacks a 0.5 percent surcharge band.) allow these firms to expand their systemic order to ensure that they will not be Moreover, a minimum surcharge of 1.0 footprint materially within the band without necessary in the future), which means that percent for all GSIBs accounts for the augmenting their capital buffers. That state of firms need to hold more capital to absorb inability to know precisely where the cut-off affairs would be particularly troubling in losses in the tail of the distribution than the line between a GSIB and a non-GSIB will be light of limitations on the data used in the historical data would suggest. Second, the at the time when a failure occurs, and the statistical analysis above. historical data are subject to survivorship surcharge’s purpose of enhancing the In particular, while the historical RORWA bias, in that a given BHC is only included in resilience of all GSIBs. dataset used to derive the function relating a the sample until it fails (or is acquired). If a We will use 100-point fixed-width bands, firm’s LGD score to its surcharge contains firm fails in a given quarter, then its with a 1.0 percent surcharge band at 130–229 many observations for relatively small losses, experience in that quarter is not included in points, a 1.5 percent surcharge band at 230– it contains far fewer observations of large the dataset, and any losses realized during

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that quarter (including losses realized only analysis would be sensitive to assumptions take on even more leverage and make upon failure) are therefore left out of the about each of these factors. themselves even more systemic (in order to dataset, leading to an underestimate of the One study produced by the Basel increase the value of the subsidy), and it probability of such large losses. Committee on Banking Supervision (with gives GSIBs an unfair advantage over less Additionally, as discussed above, our contributions from Federal Reserve staff) systemic competitors. assumption of a linear relationship between finds that net social benefits would be In theory, a GSIB surcharge could be a firm’s LGD score and the risk that its failure maximized if generally applicable common calibrated to offset the too-big-to-fail subsidy would pose to financial stability likely equity requirements were set to 13 percent of and thereby cancel out these undesirable understates the surcharge that would be risk-weighted assets, which could imply that effects. The surcharge could do so in two appropriate for the most systemically a GSIB surcharge of up to 6 percent would ways. First, as with an insurance policy, the be socially beneficial.79 The surcharges important firms. As noted above, there is value of a potential government intervention produced by the expected impact framework reason to believe that the damage to the is proportional to the probability that the are generally consistent with that range. economy increases more rapidly as a firm intervention will actually occur. A larger grows in size, complexity, reliance on short- That said, cost-benefit analysis was not chosen as the primary calibration framework buffer of capital lowers a GSIB’s probability term wholesale funding, and perhaps other for the GSIB surcharge for two reasons. First, of default and thereby makes potential GSIB metrics. it is not directly related to the mandate government intervention less likely. Put Finally, fixed-width bands are preferable to provided by the Dodd-Frank Act, which differently, a too-big-to-fail subsidy leads expanding-width bands because they are instructs the Board to mitigate risks to the creditors to lower the credit risk premium simpler and therefore more transparent to financial stability of the United States. they charge to GSIBs; by lowering credit risk, regulated entities and to the public. Second, using cost-benefit analysis to increased capital levels would lower the Alternatives to the Expected Impact directly calibrate firm-specific surcharges value of any discount in the credit risk Framework would require more precision in estimating premium. Second, banking organizations the factors discussed above in the context of view capital as a relatively costly source of Federal Reserve staff considered various surcharges for individual firms than is now funding. If it is, then a firm with elevated alternatives to the expected impact attainable. capital requirements also has a framework for calibrating a GSIB surcharge. concomitantly higher cost of funding than a Offsetting the Too-Big-To-Fail Subsidy All available methodologies are highly firm with just the generally applicable capital sensitive to a range of assumptions. It is generally agreed that GSIBs enjoyed a requirements. And this increased cost of ‘‘too-big-to-fail’’ funding advantage prior to Economy-Wide Cost-Benefit Analysis funding could, if calibrated correctly, offset the crisis and ensuing regulation, and some any cost-of-funding advantage derived from One alternative to the expected impact studies find that such a funding advantage the too-big-to-fail subsidy. framework is to assess all social costs and persists. Any such advantage derives from A surcharge calibration intended to offset benefits of capital surcharges for GSIBs and the belief of some creditors that the any too-big-to-fail subsidy would be highly then set each firm’s requirement at the point government might act to prevent a GSIB from sensitive to assumptions about the size of the where marginal social costs equal marginal defaulting on its debts. This belief leads subsidy and about the respective costs of social benefits. The principal social benefit of creditors to assign a lower credit risk to equity and debt as funding sources at various a GSIB surcharge is a reduction in the GSIBs than would be appropriate in the capital levels. These quantities cannot likelihood and severity of financial crises and absence of this government ‘‘subsidy,’’ with crisis-induced recessions. Assuming that the result that GSIBs can borrow at lower currently be estimated with sufficient capital is a relatively expensive source of rates. This creates an incentive for GSIBs to precision to arrive at capital surcharges for funding, the potential costs of higher GSIB individual firms. Thus, the expected impact approach is preferable as a primary capital requirements come from reduced 79 See Basel Committee on Banking Supervision credit intermediation by GSIBs (though this (2010), An Assessment of the Long-Term Economic framework for setting GSIB surcharges. would be offset to some extent by increased Impact of Stronger Capital and Liquidity By order of the Board of Governors of the intermediation by smaller banking Requirements (Basel, Switzerland: Bank for Federal Reserve System, July 27, 2015. organizations and other entities), a potential International Settlements, August), p. 29, www.bis.org/publ/bcbs173.pdf. The study finds that Robert deV. Frierson, loss of any GSIB scale efficiencies, and a a capital ratio of 13 percent maximizes net benefits Secretary of the Board. potential shift of credit intermediation to the on the assumption that a financial crisis can be less-regulated shadow banking sector. The expected to have moderate permanent effects on the [FR Doc. 2015–18702 Filed 8–13–15; 8:45 am] GSIB surcharges that would result from this economy. BILLING CODE 6210–01–P

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