The U.S. Federal Reserve has placed new restrictions, including a dividend cap, on large banks after its annual stress tests showed the COVID-19 crisis could push them uncomfortably close to minimum capital levels.
The Fed said Thursday it was acting to “ensure large banks remain resilient despite the economic uncertainty from the coronavirus event,” citing “sensitivity analyses” that it conducted in addition to the regular stress tests.
Under the new rules, the central bank is requiring banks to suspend share buybacks. It is also capping dividend payments to the amount paid in the second quarter, with an additional limitation based on recent earnings. The eight largest banks had already voluntarily suspended buybacks through the second quarter.
“There is material uncertainty about the trajectory for the economic recovery and its impact on banking organizations,” Fed Vice Chair Randall Quarles said in a statement.
In a dissenting statement, Fed Governor Lael Brainard said the board should have halted dividend payments completely to “allow all banks to preserve capital without suffering a competitive disadvantage relative to their peers.”
“This action creates a significant risk that banks will need to raise capital or curtail credit at a challenging time,” she warned.
Of the $143 billion that the six biggest banks spent on capital distributions last year, $107 billion went to buybacks and $36 billion to dividends.
According to CNBC, the Fed’s move “signals that the unprecedented nature of the coronavirus pandemic, and the difficulty in forecasting what the future holds for banks, is making the Fed cautious. Regulators and the industry are keen to avoid the mistakes of the previous crisis, where firms made billions of dollars in payouts only to have to raise capital later.”
On top of the Fed’s typical stress test, which examines how lenders would fare during a severe economic downturn, the regulator looked at three scenarios tied to the current pandemic: a V-shaped recession and recovery, a slower U-shaped outlook, and a W-shaped scenario that would include a double-dip recession.
“Under the U- and W-shaped scenarios, most firms remain well-capitalized but several would approach minimum capital levels,” the Fed reported.