Deutsche Bank AG, Barclays Plc and 11 other foreign banks have spent several billion dollars in the past three years complying with a new Federal Reserve rule that will trap capital in the U.S. and boost costs.
Legal, technology and other compliance expenses totaled from $100 million to as much as $500 million at some of the biggest firms affected, according to five people with direct knowledge of the matter. They provided the data on the condition their companies’ individual costs wouldn’t be disclosed.
The rule, which takes effect July 1, requires foreign banks whose U.S. assets exceed $50 billion to create umbrella legal structures for their local operations and take part in the Fed’s annual stress tests. The 10 largest banks affected had average operating expenses of $32 billion last year, and a $500 million tab would increase that by less than 2 percent. Still, three of the firms reported losses last year, and the added costs will make it more difficult to cope with challenges including the U.K. vote to leave the European Union as well as Europe’s lagging economy, negative interest rates and legacy bad loans.
“That’s a lot of money for each bank, particularly in the current environment when they’re having difficulty making money,” said Karen Shaw Petrou, a managing partner at Washington-based research firm Federal Financial Analytics. “Banks have been spending lots more on compliance in recent years as regulations pile up on them. This takes money away from other tasks like entering new businesses.”
The Fed introduced the standard in 2012, saying it would help make U.S. units of foreign banks safer even if their parents ran into trouble back home. It was designed to prevent a repeat of what happened during the financial crisis in 2008, when the Fed provided $538 billion of emergency loans to European banks with operations in the U.S.
Other European giants required to set up holding companies are Credit Suisse Group AG, BNP Paribas SA, UBS Group AG, Societe Generale SA and HSBC Holdings Plc. Mitsubishi UFJ Financial Group Inc. and Royal Bank of Canada are among the four non-European firms in the group. Spokesmen for the 10 banks with the largest operations in the U.S. declined to comment on the costs of complying with the new rule.
Each consolidated U.S. entity — called an Intermediate Holding Company, or IHC, because it’s positioned between a parent and its subsidiaries — has to abide by the same capital and liquidity rules domestic institutions face. That’s forced some of them to increase capital levels at their U.S. businesses, which is typically accomplished by converting some existing intra-group loans into equity. No cash gets moved — all that changes is the U.S. unit’s balance of debt and equity.
The end effect is a restriction on the international transfer of capital and liquidity for companies whose very business is to move money from markets where funding is plentiful to regions with the biggest need for cash.
“Capital and liquidity being trapped here is a huge issue for our members as they comply with this new rule,” said Sally Miller, head of the Institute of International Bankers, a group that represents almost 100 banks with headquarters outside the U.S. “That’s why you’ve seen many banks shrinking their U.S. operations in recent years.”
Foreign banks whose assets were just above the $50 billion asset threshold have been taking steps to get smaller so they won’t have to comply with the rule’s harshest elements. The Netherlands’ Rabobank Groep fell below the trigger at the end of 2013, and Royal Bank of Scotland Group Plc obtained permission from the Fed to avoid setting up an IHC as it shrinks assets.
