Fed Officials Prep for Bank Rule: Minimum Liquidity for Uninsured Deposits, Clearing Discount Window Stigma

Federal Reserve officials are priming the pump for a new proposal on bank liquidity regulations,hinting in recent speeches that they are seeking to adjust the liquidity framework to protect uninsured deposits that do not have direct government guarantees,and to make the Federal Reserve's primary tool for emergency lending—the discount window—more readily accepted by banks.

On Thursday,September 26th,Eastern Time,during a speech at the 10th U.S.Treasury Market Conference held by the Federal Reserve Bank of New York,Michael Barr,the Vice Chairman for Supervision at the Federal Reserve responsible for financial regulation,revealed that regulators are studying a requirement for large banks to establish a "reserve and pre-arranged collateral pool" at the discount window based on a small percentage of their uninsured deposits,in order to maintain a minimum level of readily available liquidity.This requirement implies that the new regulations from the regulatory authorities will demand that banks link uninsured deposits to minimum liquidity.

Barr said:

"Uninsured depositors must have confidence that their funds will be readily available for withdrawal if needed,and this confidence will be stronger by requiring large banks to have readily available liquidity to meet the demand for these withdrawals."

Barr continued,stating that this requirement will be an addition to existing liquidity regulations,referring to the Federal Reserve's current liquidity stress tests and liquidity coverage ratio requirements for banks.

Barr said that community banks will not be included in the scope of the aforementioned new regulatory requirements.Regulatory authorities will adopt a "tiered approach" to meet the requirements,with pre-stored collateral at the discount window including U.S.Treasury securities and "all assets eligible for pledge at the discount window."

Barr also believes that banks should abandon concerns about the stigma of using the discount window to obtain liquidity,and he encourages banks to use it when appropriate.He said:

"We believe that if,from a financial perspective,banks have a reason to use the discount window,then using it is a completely acceptable normal part of any bank's financing needs."

Barr stated that the Federal Reserve is trying to eliminate the long-standing stigma surrounding this key Fed lending tool.

"The stigmatization of the discount window has a long history.There are concerns that using the discount window may be seen as a sign of weakness.But we do not think so."Comments suggest that Barr was implying that the use of the discount window would not be seen by regulators as a sign of liquidity issues in banks.During the aforementioned New York Fed conference,Barr mentioned that the Federal Reserve is constantly working to improve discount window operations,pointing out that the Fed has added an online website that allows businesses to apply for and prepay loans in a "simplified manner" compared to before.

He also mentioned that the Fed is considering limiting the dependence of large banks on "held-to-maturity" assets in their liquidity buffers,as liquidating such securities during market turmoil would actually increase the pressure on borrowers.

In the Q&A session of the conference,Barr revealed that the new banking regulations related to the above considerations may be announced later this year or early next year.