In an October 6 speech, Federal Reserve Vice Chair for Supervision Michelle W. Bowman outlined a regulatory and supervisory modernization agenda for community banks. Her remarks highlight a growing debate over how to balance regulatory burden with financial stability
While several proposed adjustments align well with modern risk management realities, others risk introducing structural blind spots in systemic-risk visibility or weakening core supervisory disciplines. Examining these proposals through a critical risk management lens reveals a clear divide between the Good, the Bad, and the Ugly of bank regulatory policy.
A central objective of supervisory modernization is to ensure that regulatory requirements remain proportional to actual institutional risk. Several proposals on the Fed’s agenda reflect sound risk management principles by correcting historical miscalibrations.
1. Ratcheting the CBLR Back to 8%
Lowering the Community Bank Leverage Ratio (CBLR) requirement to 8% (from 9%) represents a practical recalibration. Designed under the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA), the CBLR was intended as a simplified, alternative capital framework for low-complexity institutions. The threshold at 9% created an unnecessary regulatory penalty, forcing many well-capitalized institutions back into complex risk-based capital calculations without providing supervisors additional actionable insight into their risk profiles.
2. Modernizing Market Concentration Metrics Beyond HHI
Evaluating bank merger applications through traditional local branch deposit metrics like the Herfindahl-Hirschman Index (HHI) is fundamentally outdated.
Dr. Clifford Rossi
In today's financial ecosystem, local deposit concentration is a poor proxy for actual market power or systemic risk. Other depositories (credit unions) and nonbank financial intermediaries actively compete in local markets but are excluded from traditional HHI screening.
Continuing to rely on legacy market concentration metrics artificially restricts value-creating community bank consolidation necessary to achieve critical operational scale, while ignoring real competitive dynamics.
3. Dynamically Indexing Asset Thresholds
Asset thresholds (such as $10 billion) create arbitrary regulatory cliff effects where institutions face sudden, step-function increases in compliance requirements simply due to asset growth rather than changes in risk profile or business complexity. Indexing asset thresholds to economic growth and focusing supervisory tiering on risk-driven characteristics rather than nominal balance sheet size reflects sound, risk-tailored supervision.
Regulatory reform initiatives risk overcorrecting in proposals to streamline or condense regulatory reporting, particularly the Consolidated Reports of Condition and Income (Call Report).
The Danger of Aggregated Balance Sheet Disclosures
While reducing administrative burdens for smaller banks is a commendable goal, simplifying Call Report line items removes critical risk visibility at precisely the wrong phase of the economic cycle. As the banking stresses of 2023 clearly demonstrated, asset-liability management (ALM) missteps – unhedged duration mismatches, unrealized bond portfolio losses, and volatile deposit concentrations – can rapidly destabilize banks regardless of size.
Rather than reducing reporting lines, supervisors and market participants need standardized, low-burden visibility into core, foundational balance sheet risk drivers that community banks manage every day:
Streamlining Call Reports degrades balance sheet transparency, turning supervisory oversight into a reactive post-mortem rather than a proactive risk management discipline.
The most problematic proposal involves potential changes to the supervisory rating framework – specifically initiatives aimed at recalibrating the M (Management) component of CAMELS to align more tightly with point-in-time financial metrics.
Governance Is a Leading Indicator, Not a Financial Symptom
As established in my prior research on governance and management behavioral risks – and argued in a previous GARP Risk Insights article – management quality and governance are the ultimate drivers of bank risk-taking.
Financial metrics across the remaining CAMELS components (Capital, Asset Quality, Earnings, Liquidity, and Sensitivity to Market Risk) are fundamentally lagging indicators. They reflect decisions, risk appetites, and incentive structures established quarters or years earlier. When an institution engages in aggressive growth, excessive risk layering, or inadequate risk oversight, the M rating serves as the primary forward-looking tool allowing examiners to intervene before balance sheet metrics register material distress.
Attempting to restrict the M to lagging, formulaic financial indicators severely neuters supervisory authority. It conflates management quality with temporary financial performance, ignoring how executive compensation structures, unhedged growth strategies, and cognitive biases drive tail risk.
Effective governance oversight requires structured, forward-looking evaluations of management risk-taking behavior and board independence – not a supervisory framework bound strictly to trailing accounting ratios.
Regulatory modernization should aim to eliminate unnecessary administrative friction while sharpening supervisory risk detection. Easing capital burdens via the CBLR, updating merger concentration models, and dynamically indexing asset cutoffs represent sensible, risk-proportional policy updates.
However, regulatory relief must not become a pretext for reducing risk transparency or diluting governance oversight. Obscuring core ALM and credit exposure through Call Report reduction and stripping the qualitative authority of the CAMELS "M" component weakens financial stability. True supervisory reform requires clearer risk metrics and robust governance evaluation – not supervisory blind spots.
Clifford Rossi is Executive-in-Residence, Johns Hopkins University, Carey Business School; and Professor-of-the-Practice Emeritus, University of Maryland – Robert H. Smith School of Business. Over a 25-year industry career spanning the S&L and 2008 financial crises, Dr. Rossi worked for both Fannie Mae and Freddie Mac, as well as some of the largest banks and nonbank institutions in various C-level risk management positions.