Sunday, March 24, 2013

The Plan for Prosperity

The Independent Community Bankers of America (ICBA) recently released its legislative priorities for bank regulatory burden reduction called the Plan for Prosperity.  The Plan's goal is to provide targeted regulatory relief to community banks thereby allowing them to focus more on serving their customers and communities.  It's a good plan and I wish Cam Fine and his army of members the best as they attempt to gain traction and yardage in this important area.

I wanted to touch on two topics, one is implied in the Plan for Prosperity and the other is absent.  I hope the absent one could be included in the next 'refresh' of ICBA's legislative priorities.

The first topic is the Plan's section on Strengthening Accountability in Bank Exams:  A Workable Appeals Process.

I would like to suggest an additional method that would promote both accountability and consistency in bank examinations -- a cross-agency quality assurance function.  Each bank regulatory agency, federal or state, has some kind of quality assurance program in place to promote quality bank supervision within their respective agencies.  To my knowledge, there is no quality assurance function to promote accountability and consistency among and between bank regulators, state and federal, except the occasional, and usually incident-driven, reviews by the Government Accountability Office (GAO).

Establishing an examination sampling function for reviewing the examination-level application of Federal Financial Institutions Examination Council (FFIEC)- approved interagency policies and guidelines would help both bankers and examiners.  It could be housed at the FFIEC, as something similar was contemplated in a section of the now-expired Capito-Maloney bill.  Bankers and examiners will agree, there is just a constant stream of complaints or observations that one bank regulatory agency is handling interagency policy differently than other bank regulatory agencies.  Usually the complaint to the examiner is that some other bank regulator is being a "light touch" at another bank, while you are being a "hard ass".

The other item is not in the Plan for Prosperity, but it would go a long way toward addressing a concern raised during the Transaction Account Guarantee (TAG) extension debate.  That is how community banks can retain large, uninsured deposits when there is a perception, deserved or not, that such funds would migrate over time toward the so-called Too Big to Fail (or Jail) banks.  There are existing mechanisms that community banks can use to give comfort to their "nervous money"... CDARS and repurchase agreements, for example.  But one option that has been overlooked and may be less cumbersome than the other options, is to lobby for a statutory approval for national banks to secure private deposits.

In 1934, the Supreme Court in Texas & Pacific Railway Co. v.  Pottorff  held that the incidental powers provision of the National Bank Act could not be used to justify the practice of securing private deposits.  Such powers must be specifically granted by law.  So today, national banks do have some limited and specific statutory authorizations, for example collateralizing public funds (12 USC 90), trust funds (12 USC 92a) and Native American Funds (25 USC 156), but no general statutory authorization.  Many states, however, do authorize their state-chartered banks to secure private deposits.

The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA) comes along later with provisions that restrict and prohibit insured state banks and their subsidiaries from engaging in activities and investments that are not permissible for national banks and their subsidiaries.  There is a FDICIA exception, however, for an insured state bank, that meets and continues to meet applicable capital standards, to conduct certain otherwise-prohibited activities if the bank obtains the FDIC's prior written consent.  So even though many state-chartered banks may be authorized, under the terms of their state charter, to secure private deposits, the fact that national banks are prohibited from doing so forces the state-chartered bank into a burdensome application and approval process with the FDIC.

The present situation is not wonderful for everyone involved.  A simple amendment to the National Bank Act, containing a general authorization to secure private deposits, contingent on the existence of adequate capital, liquidity, and asset/liability management practices, could reduce regulatory burden and provide an additional option for making uninsured "nervous money" in community banks less so. 

Monday, March 18, 2013

    A Lessons-Learned Review

It's a bittersweet simultaneous juxtaposition:  the proud celebration of the 150th Anniversary of the Office of the Comptroller of the Currency (OCC) and the ongoing congressional and media bruising recently-appointed Comptroller of the Currency, Tom Curry, is taking on behalf of the agency he leads.  For OCC alumni, current employees, and the interested public,  it might be instructive for us to think about the lessons we can learn (or might have learned) from our OCC forebears.

In this blog posting, we are going to turn the calendar back almost a generation, 17 years, to an excerpt of a speech given by Emory "Wayne" Rushton.  A seasoned veteran examiner, Wayne Rushton had just been selected OCC Manager of the Year by incoming Comptroller Eugene Ludwig.  The speech was delivered in Detroit, Michigan to a conference of OCC managers and executives.  

At my request, Wayne was kind enough to share a copy of his speaker's notes from his personal archives.  Excerpted below is a portion of his notes.  These notes were not meant to be prepared text.  All points of emphasis are his.  Only format adjustments were made to accommodate the financial blog format:

Remarks by Emory W. Rushton
OCC Management Conference
Detroit, Michigan

September 17, 1996

"... And I BELIEVE very deeply that what we're trying to do now with supervision by risk is the right way to go.  At the very LEAST, it raises the consciousness of the industry to the need for effective risk management systems and controls and to the fact that we'll be looking at them more closely.

But some of us here today have had to deal directly and personally with bankers during MUCH more stressful times and we've seen first hand proof of the axiom that "desperate people do desperate things."  We've seen over and over again that when banks come under stress and start getting desperate, the very FIRST things they tend to neglect or that they purposefully begin to compromise are their risk management systems.

So, we've got to be absolutely certain that supervision by risk includes not only the capability of identifying, measuring, and discussing risk but also the guts to intervene in those situations where the quantity of risk is clearly getting too high for the quality of systems that are in place.  And to do so WHILE THERE'S STILL TIME TO AFFECT THE OUTCOME.  Preferably with moral suasion, but more directly, if necessary.

Some of our biggest successes... though under reported at the time - came as a result of our willingness to step over the line and provide a "significant emotional experience" to the board of directors while they still had enough time to fix the problems THEMSELVES.

But too often in the past, we let things deteriorate beyond the point of no return before we finally acted.

We waited and we worried as underwriting standards kept sliding down, rationalized away under the guise of "competitive necessity";

as assumptions about oil and gas prices or rent rolls five years out went through the roof  based on pure speculation;

as internal audit and loan review staff were being scaled back in a near sighted attempt to help control expenses;

as desperate lenders and desperate traders found new ways to "bet the bank" to "double up and catch up", usually a poor strategy in poker, and almost always dangerous in banking!

So that by the time we finally did act, it was frequently just too little too late, the bullet was already in the body.

Ironically, though, that was when our supervisory model for problem banks really kicked into high gear when they were weakest and least able to take our burden.  Basically, we'd just examine them to death until we found enough embedded losses to wipe out their capital or, in the process, scared away their liquidity and then we'd turn out the lights and toss the keys to the FDIC.

We simply can't do it that way any more.  FDICIA won't LET us do it that way any more!

So, I believe we have to go beyond the intellectual stage of defining what banking risk is, although that was an essential step.  Beyond the ministerial stages of adding an SMS screen here and word smithing strategies there, although those things have to be done.  But let's REALLY take the plunge and do whatever's required to connect up our theories with our ACTIONS, out in the banks where it counts!

And that will take some doing INTERNALLY,  ADMINISTRATIVELY through technical training, reassignments, rescheduling, REORGANIZING, WHATEVER IT TAKES, so that we match the RIGHT PEOPLE with the RIGHT RISK, at the RIGHT TIME, not when it's too late to do anything about it.

It may prove controversial, but we can't let ourselves be held hostage by fears that some bankers and some examiners may not agree with, or may not like what we KNOW IN OUR GUT we're going to HAVE to do sooner or later. There's just too much at stake.

But intervention is tricky business, I know.  There's only a fine line between advocating change and becoming the instrument of change itself.  Between an "examiner recommendation" and an "OCC mandate" and sometimes its just a matter of the banker's perception.  And we're likely to get burned if we're too quick OR too slow.

But that's always been the defining feature, the artistry of good bank supervision, knowing when it's necessary to cross that line and when it's not.  And knowing HOW to do it so that your motives and conduct are above question, so that even the most contentious banker knows you're really doing it for the good of the bank.

It most certainly requires the right people

EXAMINERS who're skilled, experienced, and committed; not nit pickers or gunslingers, but not shrinking violets either.

And I've got to interject something here about what I view as our OWN operating risk, it could be our Achilles Heel if we don't do something about it.  And that is there are more than a few examiners in the field today who perceive that when OCC management says "no nitpicking", it really means "no criticizing" PERIOD!  That, my friends, is a recipe for disaster!!!

We've got to know what's going on out there among our people, what they're thinking, saying everyday out in the field, in the banks.  Our "inreach" has to be just as good as our outreach!

Focus Groups are a giant step in that direction, but they can't do it all.  This HAS to be a shared responsibility between examiners and management.  There could be no greater disservice by an examiner to the OCC or to himself or herself than failing to report known problems;  than promoting a false sense of security that things are better than we know them to be; or, heaven forbid, that we're "on top of things", if in fact we're not!!!  That too would be a prepaid ticket back to the dark days of 1991.

If OCC's called to testify after the next crisis, let's try to avoid even the possibility of dialogue such as:

"Mr. Chairman we at the OCC regretfully must concede that
we could have and should have done more in this case."

or perhaps even worse:

"Mr. Comptroller this Committee is very disturbed that your
examiners apparently knew about these problems but were
afraid to report them."

We simply can't AFFORD that scenario again. We can't afford a big surprise. The building might be able to stand on the remaining three pillars, but there would be serious structural damage.

And finally, I realize that all of this contemplates a far better institutional memory, a sense of history than currently exists in the OCC.  But PLEASE keep in mind that everything you do today is NOT NECESSARILY a case of first impression.  We've been down many of these same roads before.

I think that all too often, there's a tendency to minimize the work of people who went before us; that is IF we even know about it, and some of it clearly deserves that fate.   But we can still LEARN from it!..."


Editor:  Wayne's words speak for themselves.

Thursday, March 14, 2013

All for One, One for All

I wanted to comment on the recent FDIC Community Banking Study.  It's a very nice piece of work, highly recommended.  Its data-driven triangulation of the profile of the community bank population should help immensely as opportunities, costs, and regulatory burdens for community banks are debated and deliberated upon in policy circles.

The community banker interviews, discussed in Appendix B of the study, haven't received much banking media attention, but deserve to be highlighted.  The study's authors conducted interviews with nine community bankers to understand what drives the cost of regulatory compliance.  While that may be a small sample size, the collective opinions of these nine community bankers merit attention.

Here are some clips:

Most of the interview participants stated that no one regulation or (supervisory) practice had a significant effect on their institution. Instead, most stated that the strain on their organization came from the cumulative effects of all the regulatory requirements that have built up over time.”

Most of the interview participants indicated that they consider regulatory compliance as part of the normal cost of conducting business. Consistent with the notion that these costs were a normal part of business, the interview participants noted that their overall business model and strategic direction had not changed or been affected by the regulatory compliance cost issues.”

While the primary goal of the interviews was to identify what drives regulatory compliance costs at community banks, two related themes emerged. A majority of the interview participants discussed their increasing reliance on consultants and their dependence on service providers....

...Many of the interview participants stated that their increasing reliance on consultants is driven by their inability to understand and implement regulatory changes within required timeframes and their concern that their method of compliance may not pass regulatory scrutiny...

...With regard to dependence on service providers, each of the interview participants noted that they had contracted with at least one firm to provide products and automated processes that provide a cost-effective means of complying with certain regulations. While these service providers are considered beneficial to their bank's operations, interview participants noted that these firms have few incentives to make timely changes to their software to meet new regulatory requirements. These time delays could affect their bank's ability to comply with new or changed rules.”

One option community banks might consider to deal with the increasing reliance on consultants and the concern about service provider responsiveness is confederation. Confederation describes a type of organization which consolidates authority from other independent and autonomous bodies.  In the community bank context, it might be a central organization that uses the collective leverage of its members to drive down consultant costs, be a clearinghouse for compliance solutions, or possibly promote standardized compliance solutions among its members.  A confederation has the potential to use its muscle to improve servicer responsiveness or, in some cases, potentially replace vendors entirely and provide those services to members on a not-for-profit basis.

One example of a confederation in another industry is the Independent Grocers Alliance (IGA).  The Independent Grocers Alliance was started in May 1926 when a group of 100 independent retailers organized themselves into a single marketing system.  Contrasting with the big chain grocery store business model, IGA operates through stores that are owned separately from the brand.  But like the big chain stores, IGA provided their local members with common branding, technical support, a distribution network, and the leverage of the consolidated buying power of its members.  It has expanded into the world's largest voluntary supermarket chain with more than 5,000 member stores worldwide.

To varying degrees and in many respects, banking trade associations have taken many of the steps toward stronger confederation among community banks.  Some have subsidiaries that provide compliance management consulting services and certain vendor platforms.  But as the comments made by these nine community bankers seem to indicate, there are opportunities for further advancement.  Maybe turning down the volume of the seemingly interminable anti-credit union histrionics and channeling it into exploring these opportunities might be a more valued use of banking trade association resources.

Monday, March 4, 2013


I was really taken aback by portions of the Comptroller of the Currency's speech today  to the annual conference of the Institute of International Bankers. 

First, to me, the tone of the Bank Secrecy Act/Anti-Money Laundering (BSA/AML) portion of the speech communicates an undercurrent of apology for the challenges of BSA/AML compliance in our nation's largest banks.  As the speech rightly notes, the Bank Secrecy Act was passed in 1970 (that would be almost a half a century ago), beefed up in 1986 (that would be more than a quarter of a century ago) and the USA PATRIOT Act was passed after the 9/11 attacks (over a decade ago).  That's plenty of time for mega-banks with their deep pockets, unbridled access to talent, and IT resources to get their BSA/AML compliance right, if their hearts were really in it.  Large bank BSA/AML compliance programs should be shining banking industry examples (many are), not sources of national and international concern.  

Another bothersome portion was this:  "In addition, there’s a significant risk that these activities will migrate to smaller banks and thrifts as larger institutions improve their programs and exit businesses that present elevated levels of risk.  Smaller institutions may lack the resources and personnel necessary to successfully manage higher-risk activities, and so they need to be especially vigilant." 

Speaking only from examining experience in community banks in South Florida, the reality was that the opposite was frequently true.  Community bankers, who had better knowledge of their customers and are assisted by sophisticated BSA/AML compliance software, commonly saw high-risk customers, with unusual and suspicious activity, move their relationships to the large banks.  At the large banks, they would then be small fish in a big pond, and therefore less detectable. 

Sure, there are community banks that haven't gotten it right, and they rightfully receive appropriate BSA/AML enforcement actions.  But BSA/AML compliance has been on the community bank examination front burner for many, many years.  Community banks nationwide have devoted extensive resources to BSA/AML compliance.  All are expected to do frequent BSA/AML risk assessments, so that bank compliance resources can be aligned with their emerging BSA/AML risks.

I would posit that those community banks in South Florida devote more resources to BSA/AML compliance per dollar of bank assets than any of the mega-banks.  It's not uncommon to see banks in South Florida with total assets of  $300 - $600 million, that have high BSA/AML risk, to have eight to twelve employees devoted to BSA/AML compliance and suspicious activity reporting.  Larger high-risk community banks devote even more.

The old banking industry speech prop of things trickling-down from the rarefied altitudes of Wall Street to the ill-prepared, shoeless provincials in the community banks may command nods and murmurs of agreement from an audience of international bankers at the posh Washington Four Seasons Hotel, but the reality, in this case, may very well be different.

The mutual goal is to get the nefarious actors out of the banking system.  Once some of the non-compliant large banks get their acts together, those nefarious actors will find that community bankers are better prepared than ever before.  And with all of the entry points to the formal banking system being properly policed, they will need to find other ways to do their dirty business.