The Federal Reserve Board’s final rules regarding total loss absorbing capacity (TLAC) requirements for global systemically important banks (GSibs) in the US will require levels of capital and other loss-absorbing capacity that should put the final nail in the coffin of too big to fail. Originally designed simply to absorb losses, the advent of risk-based capital also used capital requirements to shape a bank’s balance sheet. With the Federal Reserve’s final TLAC rules, capital and related lossabsorbing instruments not only absorb losses and shape the balance sheet of the existing bank holding company, they also become tools to be deployed to help restructure a failed institution while maintaining market confidence and minimising systemic disruption. This article outlines the elements of the Federal Reserve’s final TLAC rule and the ways in which these serve to accomplish specific objectives.

Going versus gone capital -

Before the financial crisis, capital rules were generally premised on the notion that an appropriate amount of capital, referred

to as going concern capital, would induce market confidence. To the extent that banks maintain robust levels of high quality, or tier 1 capital, depositors have faith in the strength of the banking system. Traditionally, tier 2 capital was envisioned as capital that could absorb losses in the event of a failure and, in the US, be used to protect the deposit insurance fund and insured depositors. It was viewed as gone concern capital. However, during the financial crisis, whether because of a lack of harmonised rules relating to the types of instruments that qualified for tier 1 capital treatment or investor (and rating agency) scepticism regarding the absorbency of various capital instruments, these principles proved insufficient to maintain investor confidence and forestall bank failures. The Basel III rules, which streamlined the capital rules, imposed significantly higher capital requirements, and established prescriptive criteria for the types of instruments that qualify as tier 1 and tier 2 capital, addressed many of the perceived shortcomings.

Originally published in International Financial Law Review on February 1, 2017.