The End of Risk Based Capital for America’s Community Banks

On September 17, the FDIC board eliminated risk based capital (RBC) requirements for community banks with assets of less than $10 billion.

It replaced the international banking BASEL-inspired approach with a simple leverage ratio. A community bank will be considered well-capitalized under required prompt corrective action (PCA) regulations if the tier 1 leverage ratio is 9%.

Banks will not be required to report or to calculate a risk-based capital according to the FDIC’s press release.

The FDIC Chairman Jelena Williams said the new rule ensures that the regulatory framework is commensurate with the operational reality of these institutions.

“The final rule. . .supports the goals of reducing regulatory burden for as many community banks as possible. . .and will allow community banks to significantly reduce the regulatory reporting associated with capital adequacy on the call report.”

The rule was also supported by all the other banking regulators,  the comptroller of the currency and the Federal Reserve.

An Example for the NCUA Board

The final RBC rule passed by the NCUA board was over 400 pages and requires all of the regulatory and reporting burdens cited by the FDIC as the reason for eliminating this requirement.

Surely the NCUA can learn from this experience! There is no better time or precedent to cancel this ineffectual, burdensome and deeply flawed approach to capital measurement. For if such a rule had been effective, it would have stayed. The FDIC’s experience shows RBC doesn’t work in practice.

The simple to understand leverage ratio, now in effect, has served credit unions well since deregulation and the imposition of PCA in 2008.

Don’t be misled by the 9% well-capitalized FDIC level versus the credit union’s 7% well-capitalized PCA standards into thinking cooperatives need to raise their capital. All of the capital reserves in credit unions are “free.” More than half of bank capital is in equity shares, whose owners are expecting a return on their investment.  Free cooperative reserves do not have this performance expectation and cost.

There is no better time for NCUA board to withdraw this misguided rule. Will the board show the leadership demonstrated by the FDIC?

All credit unions would give a great sigh of relief to have this burden removed from the horizon.