OCC’s Hsu discusses possible changes to liquidity regulation and supervision

A new targeted regulation requiring midsize and large banks to show they can maintain sufficient liquidity for at least five days during bank runs and other times of stress deserves “serious consideration,” Acting Comptroller of the Currency Michael Hsu said yesterday. Speaking at a Columbia Law School event, Hsu shared what he characterized as his preliminary thoughts on possible regulatory and supervisory changes in response to lessons learned from last year’s failures of Silicon Valley Bank and Signature Bank. Hsu did not indicate whether the other banking agencies are open to his ideas and offered no timeline for possible formal proposals.

The bank failures illustrated the speed at which uninsured deposits can flow out of a bank, Hsu said. They also showed that having liquid assets is necessary but not sufficient for banks to endure acute liquidity stress—banks need to be adequately prepared and have the operational capacity to monetize those assets quickly. The liquidity coverage ratio already requires large banks to hold high-quality liquid assets sufficient to meet stressed liquidity outflows over a 30-day period, but the SVB and Signature Bank failures illustrated how current calculations for certain high-risk deposits—including uninsured deposits—result in under-calibration of risk, he said. “Better classifying higher risk deposits to better capture the heightened risk of herding and applying the appropriate outflow rate could help address this risk more effectively.”

Also, a new targeted regulatory requirement for midsize and large banks to have sufficient liquidity to cover stress outflows over a five-day period warrants serious consideration, Hsu said. “The denominator should consider the potential speed and severity of uninsured deposit outflows, while the numerator should consider the liquidity value of pre-positioned discount window collateral, in addition to reserves. The rule should also clarify operational preparedness expectations related to the [Federal Reserve] discount window, perhaps even including a requirement to do periodic test draws.”