FRB Proposes Rule Requiring Large Banks to Disclose Their Consolidated LCRs

The Board of Governors of the Federal Reserve System (“FRB”) proposed a rule requiring large banking organizations to disclose several measures of liquidity publicly. If the rule is approved, these measures will comprise the first required public disclosure of a quantitative liquidity risk metric for large banking organizations.

Under the Liquidity Coverage Ratio (“LCR”) rule adopted by the federal banking agencies last September, large banking organizations (with consolidated assets of $50 billion or more) and certain depository institution subsidiaries are required to hold a minimum amount of high-quality liquid assets (“HQLA”) that can be converted into cash easily and quickly. The amount of HQLA held by each large banking organization must be equal to or greater than its projected net cash outflow during a hypothetical stress scenario lasting for 30 days.

Under the proposed rule, large banking organizations would be required to disclose their consolidated LCRs each quarter based on averages over the prior quarter. Firms also would be required to disclose their consolidated HQLA amounts. Additionally, firms would be required to disclose their projected net cash outflow amounts, including retail inflows and outflows, derivatives inflows and outflows, and several other measures.

Comments on the proposal are due by February 2, 2016.

Lofchie Comment: Will this proposed rule motivate banking organizations to maintain appropriate liquidity, as defined by the rule? (Does the rule define liquidity appropriately, or at least correctly from a relative (if not absolute) perspective, in a way that verifies that more liquid firms do better than less liquid firms?) Most significantly, does the rule precipitate a bank run if a bank shows somewhat decreased liquidity? Although the idea that transparency is good is the common wisdom, it is not obvious that the good it provides is unmitigated.

The term “observer” is used in science to refer to the fact that the observation of an event may alter the event. Just so, regulators’ signals that a bank is having liquidity issues may turn a stumble into a fall. In a “nervous” market environment, a bank that discloses a dip in its liquidity, particularly relative to its peers, may find that it is subject to a run.