WASHINGTON — Very few large banks would opt to comply with a higher leverage ratio in return for substantial regulatory relief, according to the Congressional Budget Office.
In the report on House Financial Services Committee Chairman Jeb Hensarling's Financial Choice Act, the CBO estimated that "most of the financial institutions that chose to maintain a 10% leverage ratio would be those with assets below $10 billion,” primarily because those institutions already hold leverage ratios in excess of 10%.
Larger banks, which are already subject to the supplementary leverage ratio, would find that they would have to raise substantially more capital to comply with the 10% leverage ratio outlined by the Choice Act.
“CBO anticipates that, for example, the eight large banks headquartered in the United States that are characterized" as global systemically important banks "would not make the election because they would have to raise much more capital,” the report said. “Further, the G-SIBs would still need to comply with a variety of regulations because of international rules … [and] would be unlikely to choose the alternative regulatory regime authorized by the bill.”
The report also lowered the cost savings estimates for eliminating the Orderly Liquidation Fund, the primary source of revenue for the bill. The CBO said that eliminating the fund, which is established in Title II of the Dodd-Frank Act to provide credit to failing banks, would save $14.5 billion from 2018-27. That accounts for the majority of the $24.1 billion in total savings for Hensarling’s Choice Act outlined in the report.
But that estimate is down from the estimated $15.2 billion in deficit reduction that CBO estimated would arise from eliminating OLF in its scoring of a similar provision last year.
The office said it estimated that the risk of a bank failing and being subject to orderly liquidation authority — a process whereby the Federal Deposit Insurance Corp. and other bank regulators resolve a failing bank using a federally backed line of credit drawn from the OLF — is remote. But it said that that such an action would result in $19.8 billion in direct spending, offset by $4.3 billion in revenues derived from secondary effects on payroll and income taxes.
While the OLF disbursements are statutorily required to not result in a net cost, those cost recoveries may not arise for some time — even outside the 10-year budget window that the CBO uses to score legislation — and in the near term will be assessed as an outlay.
“CBO’s baseline projections reflect the estimated probability of various scenarios regarding the frequency and magnitude of systemic problems that could trigger spending by the OLF,” the report said. “Because future economic and financial events are inherently unpredictable, CBO assumes (on the basis of recent and historical trends) there is a chance of such an event in each of the 10 years of the projection period.”
The budget office also said that eliminating the Orderly Liquidation Fund would likely result in $1 billion in additional costs to the FDIC’s Deposit Insurance fund over 10 years, because “if a systemically important financial firm failed, some federally insured depository institutions would be among its creditors, increasing the probability of losses to the DIF.”
The elimination of the orderly liquidation authority has been the source of contention between defenders of Dodd-Frank and the Trump administration, with the provision seen by the former as a last-ditch backstop to bankruptcy and the latter arguing that the provision enshrines "too big to fail" and moral hazard. Hensarling included the elimination of OLA as a key part of his revised Choice Act, which passed out of his committee earlier this month and is expected to receive a vote on the House floor in the coming weeks.