A senior official of the U.S. Federal Reserve has called for reforms in the banking system’s liquidity rules, saying the current framework may not work effectively during times of financial stress.
Michelle W. Bowman, Vice Chair for Supervision at the Federal Reserve, shared these views during a speech at the Roundtable on Liquidity and Lender of Last Resort held in Washington, D.C. on March 3, 2026.
Banks Must Be Ready for Financial Stress
Bowman said bank liquidity is important to ensure the banking system remains stable. After the 2008 global financial crisis, regulators introduced several rules to make banks stronger. These include the Liquidity Coverage Ratio (LCR) and the Net Stable Funding Ratio (NSFR).
These rules require banks to keep enough liquid assets so they can handle sudden withdrawals or financial pressure. Banks are also required to conduct internal stress tests to assess whether they can survive difficult financial conditions.
However, Bowman said regulators must now examine whether these rules actually work during real financial stress, instead of only checking whether banks follow the rules. She said policymakers must ask whether compliance with regulations truly creates resilience in the banking system.
Current Liquidity Framework Explained
Bowman explained that the current liquidity framework mainly relies on three components:
- Liquidity Coverage Ratio (LCR) and Net Stable Funding Ratio (NSFR)
- Internal liquidity stress testing
- Resolution planning for banks during financial trouble
The LCR requires banks to hold high-quality liquid assets (HQLAs) that can be quickly converted into cash to meet financial obligations over a 30-day period. These assets include reserves at the central bank, government securities, and other highly liquid investments.
Problems with the Existing System
Bowman pointed out that the current system creates problems both during normal times and during financial stress. In normal conditions, banks hold more liquid assets than necessary because they must prove they can manage liquidity using their own balance sheets.
At the same time, banks hesitate to use liquidity support tools offered by the Federal Reserve, such as the discount window, because of stigma and market perception. During financial stress, banks may avoid using their liquidity buffers because doing so could push them below regulatory limits. This makes the system pro-cyclical, meaning stress can become worse. As a result, banks sometimes sell less liquid assets quickly to raise cash, which can increase pressure in financial markets.
Liquidity Hoarding May Reduce Lending
Bowman also warned that strict liquidity rules encourage banks to hold excessive liquid assets, a practice known as liquidity hoarding. While this may protect banks, it can reduce the amount of money available for lending to businesses and households. This situation can slow economic growth because banks become more cautious about providing credit.
Reform Needed in Federal Reserve Discount Window
Bowman highlighted the importance of the Federal Reserve’s discount window, which allows banks to borrow money from the central bank by pledging assets as collateral. However, banks rarely use this facility because borrowing from it can signal weakness to financial markets. Weekly disclosures and higher borrowing costs also discourage its use.
She said the discount window should function as a reliable liquidity backstop, but currently it is underused. Bowman also noted that the 12 regional Federal Reserve Banks have different rules and procedures for lending through the discount window. This can create uncertainty for banks and weaken the effectiveness of the system.
Impact on the Economy
According to Bowman, weaknesses in the liquidity framework have broader economic consequences. Banks tend to hold large amounts of liquid assets instead of lending. This reduces credit availability in the economy and increases demand for reserves, forcing the Federal Reserve to maintain a larger balance sheet.
Call for Policy Discussion
Bowman said policymakers must carefully evaluate reforms to ensure both financial stability and economic growth. She expressed hope that discussions among academics, regulators, and market participants would help identify improvements to the liquidity framework and strengthen the banking system.