While we commend the Securities and Exchange Commission for raising the minimum capital required for the very largest broker-dealers that use the alternative net capital requirements, we remain concerned that the Commission (and other federal financial regulators) continues to allow large, complex financial institutions to use their own internal risk models to set their minimum regulatory capital. As the Systemic Risk Council recently noted:
“While we commend the financial agencies for seeking public comment on important rules that raise the overall level of capital required for large, complex financial institutions, we have strong concerns about regulators’ continued willingness to allow these giant institutions to use their own internal risk models to lower their minimum required regulatory capital.
Not only do models routinely fail in a crisis (precisely when we need loss absorbing shareholder equity most) – their use for regulatory capital purposes can create perverse incentives for risk management and real competitive advantages for larger firms relative to smaller firms doing the same activity.
Minimum risk-based capital requirements should be just that: a minimum. If internal models identify additional risks that require higher capital, firms should be required to raise more equity. Management, boards, examiners, investors and counterparties deserve an objective and clear minimum risk-based capital baseline.”
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