Federal Reserve, breaking news!
Large American banks and business groups have filed a lawsuit against the Federal Reserve starting on December 24, local time, with plaintiffs including the American Bank Policy Institute. They accuse the Federal Reserve's annual bank "stress tests" of being illegal, demanding that the court declare the models and scenarios used in the 2024 - 2026 stress tests unlawful, and they want the Federal Reserve to publicly disclose the relevant models and scenario details for public comment. The lawsuit claims that the Federal Reserve Board lacks transparency, leading to significant fluctuations in bank capital requirements, affecting banks' ability to lend to small businesses and others.
On December 23, the Federal Reserve indicated that in light of legal developments, it is considering significant changes to the annual bank "stress tests", including allowing banks to comment on the models they use, inviting banks to provide input on hypothetical situations, and possibly averaging results over two years to reduce annual fluctuations in capital allocations. These tests were created after the financial crisis and are central to the U.S. capital system. The Federal Reserve stated that adjustments do not affect overall capital requirements and plans to initiate a public consultation process in early 2025.
The Federal Reserve's stress tests are an annual routine activity, examining how banks cope with significant declines in commercial real estate and residential prices in the most recent annual test. Previously, the U.S. Supreme Court limited the authority of regulators to interpret the law, and following the increase in capital requirements under the Basel III Accord, criticism of capital requirements from Wall Street executives has intensified. In August of this year, the Federal Reserve had lowered the capital buffer requirements for Goldman Sachs.
Some analysts pointed out that while banks may view these changes as a victory, it may be too late, and the modifications may still not be sufficient to alleviate banks' concerns about heavy capital requirements. However, the bank policy research institute, which has consistently criticized the stress tests, believes that the Federal Reserve's statement is a first step towards transparency and accountability, with its president stating that they will carefully review and consider other reform options.