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U.S. Bank Regulators Set Up Greek Tragedy

Stocks in this article: BAC MS GS DB BCS BNP CS

WASHINGTON ( TheStreet) -- Federal bank regulators have found a way to solve the European debt crisis: Allow U.S. banks to buy up Greek bonds.

According to the Proposed Rule on Risk-Based Capital Standards jointly announced Friday by the Federal Reserve, the Federal Deposit Insurance Corp., and the Office of the Comptroller of the Currency, there is no chance of a sovereign default by the Hellenic state and therefore make a perfect place for U.S. banks to story their previous capital.

The regulators say it can't happen.

The regulators are required under the Dodd-Frank Wall Street Reform and Consumer Protection Act -- signed into law by President Obama in July of last year -- to move away from relying on ratings agencies when setting capital guidelines for large banks, but it would appear that the ratings agencies actually provide a more conservative approach.

Banks are required to determine how much capital must be set aside to protect against losses on various asset classes.

Assets that are considered the most safe, such as direct obligations of the United States and many other countries have a zero risk-weighting, while riskier assets, including loans, mortgage-backed securities and non-government bonds, have much higher risk-weighting, depending on the underwriting standards, for loans, and the ratings of Standard & Poor's, Moody's, or Fitch, for securities.

The federal regulators propose to base risk-weighting for sovereign debt investments on Country Risk Classifications (CRC), for countries that are members of the Organization for Economic Co-operation and Development (OECC). For countries with no CRC assigned, the risk-weighting would be 100%.

The risk-weighting for sovereign debt issued by OECD members with CRCs of zero or 1, would be zero. For OECD members with a CRC of 2 the risk-weighting would be 20%. For members with a CRC of 3, the risk-weighting would be 50%. For CRCs ranging from 4 to 6, the risk-weighting would be 100%, and for a CRC of 7, the risk-weighting would be 150%.

The federal regulators said that "to alleviate concerns about potential misclassifications, the agencies are proposing to apply a specific risk-weighting factor of 12.0 percent to sovereign debt positions where the sovereign has defaulted on any exposure during the previous five years." This means a bank would have to set aside capital totaling 12% to protect against default.

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