Fed to Consider Tougher Rules for Midsize Banks After SVB, Signature Failures

Revamped rules follow emergency measures Sunday to shore up banking system

The Federal Reserve is rethinking a number of its own rules related to midsize banks following the collapse of two lenders, potentially extending restrictions that currently only apply to the biggest Wall Street firms.

A raft of tougher capital and liquidity requirements are under review, as well as steps to beef up annual “stress tests” that assess banks’ ability to weather a hypothetical recession, according to a person familiar with the latest thinking among U.S. regulators.

The rules could target firms with between $100 billion to $250 billion in assets, which at present escape some of the toughest requirements. There are about two dozen banks within the range, such as Fifth Third Bancorp and Regions Financial Corp.

The Federal Reserve, Treasury Department and Federal Deposit Insurance Corp. late Sunday rolled out emergency assistance for banks and said depositors would be made whole after the failures of Silicon Valley Bank and Signature Bank. The move was meant to calm customers worried about the safety of their uninsured deposits following the collapse of Silicon Valley Bank last week.

The Fed and other bank regulators imposed many new rules on banks in response to the last financial crisis. Lawmakers in 2018 rolled back some of those restrictions by raising a threshold so that the most onerous standards applied to firms with more than $250 billion in assets. The changes under consideration, which are allowed under that 2018 law, could have the effect of reversing that shift by significantly lowering that threshold.

The Fed was already reviewing a number of its regulations, led by Michael Barr, the central bank’s pointman on banking supervision. But the past weekend’s banking crisis has caused officials to rethink parts of their review and to refocus their efforts on smaller institutions.

Mr. Barr has warned in the past that risks can aggregate across the financial system, including from institutions of a variety of sizes and types.

“The rules were not meant to only apply to the largest handful of systemically important firms,” Mr. Barr said in a 2018 op-ed article in American Banker. “It is the very antithesis of macro-prudential supervision to focus only on the largest handful of financial firms and to ignore risks elsewhere in the system.”

Over the coming months, the Fed is expected to propose changes that could require more banks to show unrealized gains and losses on some securities in their regulatory capital. The move would affect their regulatory capital ratios, a key measure of a bank’s strength.

While banks regularly borrow short-term to lend for longer periods, SVB SIVB -60.41%decrease; red down pointing triangle concentrated its balance sheet in long-dated assets. The bank essentially reached for yield to bolster results at the worst possible time, just ahead of the Federal Reserve’s rate-hiking campaign. That left it sitting on unrealized losses, making it more susceptible to customers pulling funds.

The changes under consideration at the Fed, had they been in place earlier, could have reduced SVB’s reported capital over time. That might have forced it to raise more money sooner or otherwise adjust how it managed its exposures.

Regulators also are preparing to adjust the scope of a plan to add to regional banks’ financial cushions that could be called on in times of crisis. An October plan floated by the Fed and FDIC would have required firms with more than $250 billion to raise long-term debt that can help absorb losses in case of their own insolvency. Regulators now are considering proposing the measure to apply to banks below that threshold.