US Federal Reserve
US Federal Reserve issues rule to prevent formation of oversized financial firms. Reuters

The US Federal Reserve has finalised a law prohibiting the formation of large financial companies through merger so that a possible collapse of such firms could not largely impact the country's financial market.

The measure was proposed in the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, and the rule will become effective as of 1 January 2015.

The rule will be applicable to financial companies such as insured depository institutions, bank holding companies, savings and loan holding companies, foreign banking organisations, companies that control insured depository institutions, and non-bank financial companies designated "systemic" by the Financial Stability Oversight Council (FSOC).

It "generally prohibits a financial company from combining with another company if the ratio of the resulting company's liabilities exceeds 10% of the aggregate consolidated liabilities of all financial companies," the Fed said in a statement.

The rule largely remains the same as the proposal issued in May. However, the Fed made certain changes in response to comments from the financial industry.

"Under the final rule, if a financial company has reached the 10% concentration limit, the company could not acquire control of another company under merchant banking authority," the central bank said.

"The final rule also adds an exemption to clarify that a financial company may continue to engage in securitisation activities if it has reached the limit."

As per the rule, liabilities of a financial institution are generally defined as the difference between its risk-weighted assets, as adjusted to reflect exposures deducted from regulatory capital, and its total regulatory capital.

Firms not subject to consolidated risk-based capital rules would measure liabilities using generally accepted accounting standards.

The FSOC has earlier designated General Electric Co's GE Capital, American International Group Inc and Prudential Financial Inc as systemic. Metlife is fighting the council's proposal to designate the company as systemic.

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