A new proposal by the Feds puts our nations small and community banks on the same playing field as large banks…seems an unfair game. Will the higher capital requirements stunt our economic growth?  The Basel III international bank capital standards slap a “one size fits all”  tag on a banking system that has a wide variety of models and could potentially force thousands of smaller banks out of business. In this tenuous economy, small business is expected to hire and grow to propel our country into recovery.  This requires access to capital.  When big banks with stricter standards turn business away in the lending line, it is the smaller banks and asset based lenders that provide needed funding.  As banks of every size scramble to get to the required capital levels, they will be forced to close their wallets even tighter. This will lead to higher demand and increased competition for asset based lending options.  Many businesses will simply remain in “hunker down” mode. If the new ruling goes through, the game is changed.  Whether there is a decrease in borrowing options or an increase in restructuring and holding patterns for small business, the higher capital requirements will potentially stunt economic growth.

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Source: Forbes, June 8 2012, by Halah Touryalai

The Federal Reserve is not an agency that likes to surprise the markets but its proposed rule on bank capital ratios is throwing some banks for a loop.

The Fed’s proposed rule requires banks to maintain at least 7% of their assets in capital reserves–roughly three times more than existing requirements. That was widely expected but what wasn’t expected is that the new rule would apply to all bank holding companies with more than $500 million in assets. That means the nation’s small and community banks will have to play by the same rules as their large bank counterparts like JPMorgan Chase, Bank of America and Citigroup, for instance.

The one-size-fits all proposal is surprising because the higher capital requirements were sparked by the financial crisis when big, systemically important banks were on the bring of failure. The so-called Basel agreement was agreed to by international regulators to shore up financial institutions’ capital levels which they believe will provide greater cushion in the event of another crisis. Each country is responsible for implementing the new capital rules.

American Bankers Association’s Executive Vice President for Financial Institutions Policy and Regulatory Affairs, Wayne Abernathy, says the proposal gives the industry a chance to ask if the Fed “got it right.” Says Abernathy, “We have to ask how adjustable are these proposed rules. If they are doing one-size-fits all then that’s a mistake because there is a wide variety of bank models out there. Citigroup is very different than First American Bank.”

Bank analyst Nancy Bush says most big banks are still studying the proposal but say the proposal is generally what they expected. “There seems to be a lot going on behind the scenes at the Fed on why they chose to include small banks. Perhaps it’s a reflection of the Fed’s concern over the ongoing issues in Europe. And then there was Jamie Dimon loss issue,” Bush says.

She adds that the FDIC recently came out and said that small banks will not be subject to Fed stress tests that their larger counter banks take part in. “So this is now a little contradictory,” Bush adds.

Frank Sorrentino, Chairman and CEO of North Jersey Community Bank (NJCB) with $800 million in assets, says his bank is already in excess of the proposed bank ratios but says other small banks are at risk. “I’m very concerned about the one size fits all approach, but also with how the Fed weighs risk-based capital because it may be onerous to small banks.”

For instance, mortgages and some classes of commercial real estate could require a bank to hold more capital because they are deemed riskier by the Fed–that could be trouble for some small banks that are heavily concentrated in those assets. “Even though we are talking about 7% at the base with that in mind it could be raised to 8%, 9% or 10% for some small banks.”

Bank analyst Dick Bove says the inclusion of banks down to a size of $500 million in the rulings will likely to drive up to 2,000 banks out of business. He says in a note today that the higher risk weightings on certain classes of residential mortgages “will increase the cost of borrowing on a home and reduce the number of mortgages being made hampering a housing recovery.”

He adds:

Overall, I continue to believe that there is no evidence that high capital ratios prevent banks from failing so the basic premise behind these rules is questionable. Moreover, the convoluted method of determining what common equity is reinforces the belief that no one really knows, or can calculate, what capital is by looking at a bank statement.

Further, although the Fed believes that it is not pressuring the industry to shrink its lending and asset growth by setting future dates for the implementation of these rules, this view is simplistic. Banks must now get to the desired levels as quickly as possible. Those that fail to do so will be perceived to be weaker than their peers.

That’s a concern echoed by Bush who says even though the some banks won’t have meet the requirements until 2019 the markets will expect more immediate action. “The market expectation is now. Investors will just separate the capital rich from not capital-rich,” Bush says.