Quarles Defends Fed Decision to Hold Capital Buffer at Zero

Federal Reserve Vice Chairman for Supervision Randal Quarles today defended the agency’s decision to hold the countercyclical capital buffer for banking organizations using the Basel III advanced approaches at zero percent for the third year in a row, noting that financial vulnerabilities remain within their normal range. The buffer is a tool by which the Fed can gradually raise the capital requirements on internationally active banking organizations when there is a risk of meaningfully above-normal losses in the future.

Speaking at a conference in New York, Quarles outlined the four dimensions of vulnerability the Fed considers when deciding to increase the buffer: asset valuations, debt outstanding, funding risk and financial sector leverage. While he observed that business debt levels and asset valuations are historically high, he noted that banks have “limited direct exposures” to overextended borrowers and that valuations seem supported by the underlying economy. Meanwhile, household borrowing, financial sector leverage and funding risk pose “modest vulnerabilities,” he said.

“Because we set high, through-the-cycle capital requirements in the United States that provide substantial resilience to normal fluctuations in economic and financial conditions, it is appropriate to set the CCyB at zero in a normal risk environment,” Quarles added. “Thus, our presumption has been that the CCyB would be zero most of the time.” The American Bankers Association has opposed raising the countercyclical capital buffer at present, noting in previous comment letters that countercyclicality is already addressed through the U.S. stress testing regime.