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William Nelson — Setting the record straight on why leverage ratio must change

A recent op-ed on this blog by Paul Kupiec misstates the Clearing House’s criticism of the supplementary leverage ratio. Kupiec’s article indicates that the Clearing House’s position is contained in a recent article by Darrell Duffie, a professor at Stanford University. Although Professor Duffie’s article appeared in the Clearing House’s quarterly journal “Banking Perspectives”, his views were his own, and he received no compensation from the Clearing House.

We will let Mr. Kupiec debate Dr. Duffie’s views with Dr. Duffie. As for us, the Clearing House’s arguments against the leverage ratio are explained in a Clearing House Research note, “Shortcomings of Leverage Ratio Requirements,” which has been available on our website for over a year. The leverage ratio’s core intractable problem is that it treats all bank assets as having the same level of risk, from deposits at the central bank and Treasury securities to leveraged loans, loans to small businesses and credit card loans. If the leverage ratio were simply a backstop that didn’t influence bank behavior, its poor design would be irrelevant for banks’ capital planning decisions. But as I explain below, it clearly is influencing banks’ behavior, and its flaws therefore have dangerous implications....

American Banker
Setting the record straight on why leverage ratio must change

William Nelson | head of research and chief economist for The Clearing House, and formerly a deputy director of the Division of Monetary Affairs at the Federal Reserve Board