The Treasury Department, Federal Reserve and other regulators on Tuesday took more steps to revitalize lending in a market left reeling by the worldwide COVID-19 pandemic.
The Fed, along with Treasury’s Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation, issued a statement encouraging banks to use excess reserves to lend to households and businesses.
Banks have more than doubled their capital and liquidity levels over the past decade and are now substantially safer and stronger than they were previously, the regulators said in a statement Tuesday.
“Since the global financial crisis of 2007-2008, U.S. banking organizations have built up substantial levels of capital and liquidity in excess of regulatory minimums and buffers,” the agencies said. The largest banking organizations hold $1.3 trillion in common equity and $2.9 trillion in high quality liquid assets.
The agencies said these capital and liquidity buffers were designed to provide banks “with the means to support the economy in adverse situations and allow banking organizations to continue to serve households and businesses.”
The three banking agencies also adopted an interim final rule that revises the definition of “eligible retained income,” addressing the impact of dislocations in the U.S. economy as a result of COVID-19, the disease caused by the coronavirus.
The regulators said modifying this definition allows banks to more freely use their capital buffers, which will promote lending activity and other financial activities. This could help banks continue to lend even as they realize a sudden drop in capital ratios. Such a drop could be a strong incentive for banking organizations to limit lending and other financial intermediation activities to avoid facing abrupt limitations on capital distributions, such as dividend payments.
“Thus, the current definition of eligible retained income, particularly in light of present market uncertainty, could serve as a deterrent for banking organizations to continue lending to creditworthy businesses and households,” the regulators said.
The interim final rule will go into effect upon publication in the Federal Register, which is expected within days.
The Treasury Department and Federal Reserve also said they were taking a page out of the 2007-2009 financial playbook and reestablishing a commercial paper funding facility to keep credit flowing into the economy.
“By providing short-term credit, the CPFF will help American businesses manage their finances through this challenging period,” Treasury Secretary Steven Mnuchin said in a written statement.
“Commercial paper markets directly finance a wide range of economic activity, supplying credit and funding for auto loans and mortgages as well as liquidity to meet the operational needs of a range of companies,” the Fed said in a separate statement. “By ensuring the smooth functioning of this market, particularly in times of strain, the Federal Reserve is providing credit that will support families, businesses, and jobs across the economy.”
The CPFF will be structured as a credit facility to a special purpose vehicle, which will purchase three-month U.S. dollar-denominated, well-rated commercial paper from eligible issuers through the New York Fed’s primary dealers. Commercial paper is a short-term debt instrument issued by companies. They usually mature within 270 days.
Treasury will provide $10 billion of credit protection to the Fed in connection with the commercial paper funding facility.
The last time the Fed established a CPFF was in the fall of 2008, during the height of the financial crisis.