As discussed over the past few days (here, here, or here), the Supplementary Leverage Ratio (SLR) - and especially its enhanced version (eSLR) - has emerged as a pivotal regulatory constraint on the intermediation capacity of the largest US bank holding companies.
Alex, an excellent description of what currently appears on the horizon. However, I would suggest that the Treasury and Fed are both aware and before long we are going to see SLR restrictions on banks relaxed or removed to allow more activity by the banking sector and eventually I suspect we will see mandates for banks and insurers to own a certain percentage of Treasuries on their balance sheets. Someone also suggested that in 401K's, IRA's a minimum percentage of Treasury ownership will be required to maintain the tax advantages.
I don't believe we will get to the point where there are real problems as they will simply change the rules to alleviate them.
Hey Andy, thanks! I don't deny that the SLR restrictions can be eased. In fact, I explicitly mentioned that in my article from a couple of days ago: https://goghieas.substack.com/p/the-supplementary-leverage-ratio. My argument, based on the posts from the past few days in which I analyzed the new financial structure - especially regarding USTs - is that the SLR has fundamentally altered financial dynamics. With its introduction, we saw a decline in primary dealer activity, those who could previously use their balance sheets to provide a "backstop" for UST markets, and a corresponding rise in the role of leverage-intensive financial institutions like hedge funds, prime brokers, PTFs, and so on. This makes the system far more fragile during periods of distress, as these leverage-intensive institutions are primarily focused on generating returns, not on preserving the market value of USTs.
Now, when it comes to the SLR, policymakers need to be cautious not to create distorted incentives. A blanket relaxation of the SLR could lead to situations reminiscent of Silicon Valley Bank. Let’s not forget that while USTs may be free of credit risk, they are not immune to market risk, especially duration risk. That’s why I argued in that post from a couple of days ago that a pragmatic solution would be to abandon the strictly non-risk-weighted nature of the SLR and modify the leverage ratio framework to apply differentiated treatment for risk-free assets - such as assigning a lower, but never zero, weighting to Treasuries compared to private-sector assets.
you make perfect sense, but that is also why I think we will see other measures, akin to forcing institutions and individuals to hold Treasuries to retain current tax status
Alex, an excellent description of what currently appears on the horizon. However, I would suggest that the Treasury and Fed are both aware and before long we are going to see SLR restrictions on banks relaxed or removed to allow more activity by the banking sector and eventually I suspect we will see mandates for banks and insurers to own a certain percentage of Treasuries on their balance sheets. Someone also suggested that in 401K's, IRA's a minimum percentage of Treasury ownership will be required to maintain the tax advantages.
I don't believe we will get to the point where there are real problems as they will simply change the rules to alleviate them.
Hey Andy, thanks! I don't deny that the SLR restrictions can be eased. In fact, I explicitly mentioned that in my article from a couple of days ago: https://goghieas.substack.com/p/the-supplementary-leverage-ratio. My argument, based on the posts from the past few days in which I analyzed the new financial structure - especially regarding USTs - is that the SLR has fundamentally altered financial dynamics. With its introduction, we saw a decline in primary dealer activity, those who could previously use their balance sheets to provide a "backstop" for UST markets, and a corresponding rise in the role of leverage-intensive financial institutions like hedge funds, prime brokers, PTFs, and so on. This makes the system far more fragile during periods of distress, as these leverage-intensive institutions are primarily focused on generating returns, not on preserving the market value of USTs.
Now, when it comes to the SLR, policymakers need to be cautious not to create distorted incentives. A blanket relaxation of the SLR could lead to situations reminiscent of Silicon Valley Bank. Let’s not forget that while USTs may be free of credit risk, they are not immune to market risk, especially duration risk. That’s why I argued in that post from a couple of days ago that a pragmatic solution would be to abandon the strictly non-risk-weighted nature of the SLR and modify the leverage ratio framework to apply differentiated treatment for risk-free assets - such as assigning a lower, but never zero, weighting to Treasuries compared to private-sector assets.
you make perfect sense, but that is also why I think we will see other measures, akin to forcing institutions and individuals to hold Treasuries to retain current tax status