Regulators should extend limits on banks’ capital distributions to help protect the financial system in case the global economic recovery proves slow, the International Monetary Fund said, a recommendation that comes just as some large lenders are itching to resume repurchasing stock and paying dividends.
Bank regulators should also act faster to roll back temporary relief measures that undermine the reliability of financial statements, or tweak global capital rules, even as other measures supporting the financial system remain in place, the IMF said in a new section of its semi-annual Global Financial Stability Report, released Friday.
Executives from top US and European banks have said in recent weeks that they expect pandemic-era restrictions on capital distributions to be lifted soon. They argue that they’ve built up enough capital to cope with any problems that might be caused by a slow recovery.
Under an adverse economic scenario considered by the IMF, the world’s banks would fall $420 billion below regulatory capital requirements. That shortfall drops to $110 billion with the slew of temporary measures regulators and governments have taken to shield the banking system, including limits on capital distributions, the IMF said.
“When you retain earnings as capital, they’re not lost,” Tobias Adrian, director of the IMF’s monetary and capital markets department, said in an interview. “Banks can pay them out to shareholders once the pandemic is over. So when policy makers are not sure when that might be, it’s better to be cautious and hold on to earnings.”
European regulators suspended bank dividends in March. In the US, where more capital is distributed through share repurchases, regulators halted only buybacks while putting restrictions on dividend increases and tying them to current profit levels. Those restrictions largely expire at the end of the year, but regulators could extend them. The US Federal Reserve is conducting this year’s second stress test to see whether the country’s biggest banks can withstand further economic pressures in a lingering pandemic.
The IMF said such stress tests are useful and should be employed even more widely as regulators try to determine the fragility of their financial institutions amid the unprecedented challenges brought by the pandemic. The fund, meanwhile, criticized temporary relief measures that undermine established capital and accounting rules. In addition to releasing capital buffers, regulators have suspended some rules on accounting for bad debts and tweaked how capital ratios are calculated to ease the pandemic’s impact on bank balance sheets.
“There’s already plenty of flexibility built into accounting and capital rules,” Adrian said. “Using those during the pandemic makes a lot of sense. That’s what buffers are designed for. But relaxing the rules themselves — for example, by changing the definitions of capital — can weaken the trust in the financial system.”
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