The Federal Reserve disclosed plans to relax key bank capital regulations, lowering the "Enhanced Supplementary Leverage Ratio (eSLR)."

On Wednesday local time, the Federal Reserve announced plans to relax a key capital regulation that had previously been criticized by large banks for limiting their ability to hold more U.S. Treasury securities and act as intermediaries in a $29 trillion market.

The Federal Reserve proposed modifications to the so-called "Enhanced Supplementary Leverage Ratio (eSLR)" on Wednesday, which applies to the largest banks in the U.S., such as Bank of America, JP Morgan, and Goldman Sachs. The revision will lower the capital requirements for holding companies from the current 5% to a range of 3.5% to 4.5%, and the requirements for their bank subsidiaries will also be reduced from 6% to the same range.

The new Vice Chair for Supervision of the Federal Reserve, Michael Barr, stated in a statement accompanying the draft:

The proposal will help enhance the resilience of the U.S. Treasury market, reduce the likelihood of market dysfunction, and lessen the need for Federal Reserve intervention during future stress events. We should proactively address the unintended consequences of bank regulation.

Barr's predecessor, Federal Reserve Governor Randal Quarles, opposed the plan, stating that it would weaken the eSLR and reduce the capital of U.S. global systemically important banks by $210 billion. "Overall, these changes will significantly increase the risk of failure for G-SIB banks, making orderly resolution impossible and leading to higher losses for the Deposit Insurance Fund."

The proposal is a partial victory for banks, as they had called for the Federal Reserve to exclude assets like U.S. Treasury securities from the eSLR calculation. The industry actively pushed for deregulation during the Trump administration and is expected to seek more exemptions during the 60-day public comment period.

This leverage ratio has been in effect since 2018, treating all assets equally as a supplement to capital calculated under risk-weighted rules. Policymakers have indicated that the eSLR is already stricter for some banks than the risk-weighted rules and may limit their ability to increase Treasury holdings during times of stress. Critics question whether relaxing the eSLR will genuinely encourage banks to purchase more Treasury securities.

Former U.S. Treasury official and current financial regulatory expert Graham Steele pointed out, "The challenge for regulators is how to address the narrow issue of banks supporting the Treasury market without jeopardizing financial stability or allowing banks to allocate excess capital to shareholders." He suggested that regulators consider more targeted solutions to alleviate market issues.

The Federal Reserve's announcement confirmed related modifications reported by the media last week. The Federal Deposit Insurance Corporation (FDIC) will hold its own meeting on Thursday, with board members including current Acting Comptroller of the Currency Rodney Hood, who is also a key regulator providing comments on the proposal.

During the economic and financial turmoil triggered by the COVID-19 pandemic in 2020, the Federal Reserve temporarily relaxed leverage ratio standards, allowing banks to hold more U.S. Treasury securities without affecting their leverage ratios to free up lending capacity for consumers and businesses. This exemption expired in March 2021.

In April 2024, the Trump administration's tariff policies once again shook the market, increasing attention on the SLR standards Bowman stated earlier this week in a speech: "We cannot predict exactly what future stress events will occur or how they will manifest. If unnecessary restrictions continue to be imposed on the intermediation capacity of market makers, it may exacerbate volatility in this critical market in the future. However, we do know that these events have raised concerns about the resilience of the U.S. Treasury market."

Federal Reserve Chairman Jerome Powell also supports revising the SLR standard to strengthen the role of banks as intermediaries in the Treasury market. He stated at the House Financial Services Committee: "When leverage becomes a binding constraint, it suppresses banks from engaging in low-profit, relatively safe activities, such as intermediation in the Treasury market."

Democratic Senator Elizabeth Warren from Massachusetts sharply criticized the Federal Reserve's proposal to weaken the eSLR. In a letter to banking regulators, she referred to the leverage rule as "a critical safeguard for maintaining financial stability" and warned that the U.S. economy is at risk due to Trump's tariff policies