(Bloomberg) -- The largest U.S. banks should be able to weigh in before the Federal Reserve makes capital requirements under its annual stress test even tougher, said H. Rodgin Cohen, senior chairman of New York-based law firm Sullivan & Cromwell LLP.
“If we’re going to increase these capital requirements, shouldn’t there be notice and opportunity for comment?” Cohen said in an interview Tuesday with David Westin and Stephanie Ruhle on Bloomberg Television. “The stress tests have always been in the shadows. The models the Fed uses are a black box, the estimates they use are a black box. If they’re going to increase the basic requirements, this one should be out for comment.”
Fed Governor Daniel Tarullo said Monday on the same program that there’s “more than a pretty good chance” that banks will face an increase in minimum capital ratios needed to pass the stress test and win approval to return money to shareholders through dividends and buybacks. Such a move could reignite the debate over whether capital requirements based on size make the largest U.S. banks worth more broken up.
“Clearly at some point, the increased capital requirements for the very largest banks would force banks to reduce themselves in size,” Cohen said. “And the emphasis on the stress test is quite real. That has been the constraining capital requirement for some time now.”
Cohen said the biggest lenders would like to see a “data- driven analysis” on what the higher requirements would mean.
While the Fed hasn’t decided how it will toughen the stress tests, it could be through incorporating some or all of the capital surcharges assigned based on systemic importance, Tarullo said. The Fed in July outlined extra capital requirements ranging from 1 percent to 4.5 percent of risk- weighted assets that would apply to eight of the biggest U.S. banks, including JPMorgan Chase & Co. and Citigroup Inc.
Incorporating those requirements in the stress test would boost the capital banks would have to maintain not just in normal times, but also in a severe crisis. Including the full amount of the surcharge would almost double the test’s required minimum capital level for the largest banks.