Abstract
This paper discusses key findings of the Detailed Assessment of Observance of the Basel Core Principles for Effective Banking Supervision (BCP) on the United States. The U.S. federal banking agencies have improved considerably in effectiveness. These improvements are reflected in the high degree of compliance with BCP in this current assessment. Shortcomings have been observed, particularly in the treatment of concentration risk and large exposures, but they do not raise concerns overall about the authorities’ ability to undertake effective supervision. These shortcomings should, however, be addressed if the United States is to achieve the standards of supervisory effectiveness expected of one of the most systemically important financial systems in the world.
Summary and Key Findings
1. The U.S. federal banking agencies (FBAs1) have improved considerably in effectiveness since the previous FSAP. In response to global and domestic reforms, particularly the Dodd-Frank Act (DFA), the FBAs have stepped up their supervisory intensity, especially of large banking organizations, putting emphasis on banks’ capital planning, stress testing and corporate governance. To match, the FBAs have also enhanced their supervisory capacity, adding significantly to their staffing numbers and skills base.
2. These improvements are reflected in the high degree of compliance with the Basel Core Principles for Effective Banking Supervision (BCP) in this current assessment. Shortcomings have been observed, particularly in the treatment of concentration risk and large exposures, but they do not raise concerns overall about the authorities’ ability to undertake effective supervision. These shortcomings should, however, be addressed if the United States is to achieve the standards of supervisory effectiveness expected of one of the most systemically important financial systems in the world.
3. The Dodd-Frank reforms have resulted in some rationalization of supervisory responsibilities but they did not address, fundamentally, the fragmented nature of the U.S. financial regulatory structure. This was an opportunity lost. The problems inherent in multiple regulators with distinct but overlapping mandates remain, with the new challenge of delineating responsibilities with a stand-alone consumer protection agency. The FBAs are committed to making the revised arrangements work and cooperation has clearly improved. Nonetheless, there is substantial duplication of supervisory effort, particularly in respect of entities in major banking groups, and the ongoing risk of inconsistent messages from the agencies. Against this background, the assessors saw scope to sharpen supervisory mandates and opportunities for a more targeted allocation and commitment of resources to the supervision of smaller banking institutions.
4. The U.S. prudential regulatory regime is a complex structure of federal statutes, regulations and reporting requirements, and policy statements and supervisory guidance. Since the crisis, the DFA and other initiatives have introduced various “tiers” of prudential requirements for banks and bank holding companies, which underpin the heightened supervisory focus on large banking organizations but have added to the complexity of the regime. Many requirements of the BCP are in practice, however, determined by the supervisor under a principles-based approach. Such an approach provides flexibility for supervisors to tailor their actions to each individual situation and be more nuanced in their response. Under the Office of the Comptroller of the Currency (OCC)’s new “Heightened Standards”, for example, the supervisor has a range of informal and formal corrective responses that can be pursued before formal enforcement actions—which, in the U.S., are published—are taken. Of course in benign circumstances, when the financial situation of a bank is still satisfactory, a principles-based approach may encourage a delayed supervisory response. However, the assessors observed that banks were responsive to informal guidance and “best practice” recommendations from the FBAs and that supervisory oversight based on that guidance has stepped up in intensity. In the upturn of the cycle, it is important that good supervisory practice established under crisis conditions be maintained.
5. In many cases, this principles-based approach is reflected in a lack of specificity in the regime, for example, the absence of guidelines or supervisory “triggers” for various risks. A greater degree of specificity would be consistent with the principles-based approach and would have three potential benefits: (i) the agencies would have an opportunity to make a preventative statement on risks that signals to banks where greater intensity of supervision can be expected; (ii) greater specificity would be a useful way to articulate the supervisors’ risk appetite and hence shorten the time gap between the build-up of risks and a supervisory response; and (iii) greater specificity would provide a useful (internal) reference point for offsite and continuous monitoring and an indicator of when a bank’s risk profile might need to be escalated up the supervisory management chain. There are a number of ways this greater level of specificity can be achieved within a principles-based approach, starting with agency statements to banks of areas that merit greater supervisory intensity and moving to more formal (internal) triggers for supervisory action.
6. Since the crisis, there has also been a marked improvement in the risk management practices of banking organizations, an area identified to have material shortcomings in the previous FSAP. Consistent with global initiatives to “raise the bar” in risk management, the improvements are apparent in the greater engagement and skill levels of many boards, the strengthening of the risk management function itself, and in the aggregation of risk data. Nonetheless, these efforts are best described as “work-in-progress” from what was, in many cases, a lower starting point than in some major jurisdictions. The full implementation of the OCC’s “Heightened Standards” will add impetus to these efforts, as would a clearer delineation of the contribution of boards and senior management in supervisory assessments.
Mandate, independence and cooperation (CP 1-3)
7. The U.S. system of multiple FBAs with distinct but overlapping responsibilities continues to put an absolute premium on effective cooperation and collaboration. The FBAs will need to ensure that the significant improvements in collaboration in recent years become fully engrained in the modus operandi of each agency. Internationally, the establishment of supervisory colleges and crisis management groups (CMGs) has given greater urgency to information-sharing arrangements and there are no legal or other impediments to the ability and willingness of the FBAs to cooperate and collaborate with foreign supervisors. The dual banking structure does pose a challenge for international cooperation, and state banking agencies with Foreign Banking Organization (FBO) presence do not always inform or coordinate enforcement actions with home supervisors.
8. The FBAs are operationally independent, and have clear mandates for safety and soundness of the banking system. However, the FBAs also have other objectives, and the primacy of the safety and soundness objective needs to be better enshrined in legislation or mission statements to ensure a clear focus on this objective in different phases of the business cycle. In principle, the creation of a stand-alone Consumer Financial Protection Bureau (CFPB) should help establish a greater delineation between individual consumer issues and prudential issues and give the FBAs a clearer sense of purpose, but the delineation is not yet sharp. There is no evidence of direct interference by industry and government in supervisory priorities or decisions. The high level of public and congressional scrutiny and resulting sentiment may have an indirect effect in creating a perception of “cyclical” supervisory responses.
Licensing, permissible activities, transfer ownership and major acquisitions (CP 3-6)
9. The dual banking structure with charter choice adds to the challenge of cooperation and collaboration across multiple agencies. Banks may in principle choose to operate under a federal or state charter that best accommodates their business or strategic needs. Further, state-chartered banks may choose between being supervised primarily by the FDIC or primarily by the Federal Reserve as a member bank, in addition to the supervision of their state supervisory authority. Concerns have been raised that this choice can give rise to “regime shopping” that can undermine the integrity of U.S. regulatory arrangements. The DFA has restricted the ability of weak and troubled banks to change charters, but charter conversions of (well-rated) banks and savings associations continue on a modest scale. The FBAs need to guard against perceptions of differences in supervisory style or treatment in their regional offices that could sway the choices made by banks in charter conversions.
Supervisory approach, processes and reporting and sanctioning powers (CP 8-10)
10. The FBAs have significantly increased their level of resources and intensity of supervision of the largest firms, and have articulated a tiered approach built on asset-based thresholds to achieve the desired proportionality. The traditional focus on on-site examinations has changed a little as there has been a shift towards more stress testing, analysis and horizontal reviews. Overall, the supervisory regime is effective and risk-based. There is an increasing focus on resolution (for the larger firms). There remains scope for better prioritization of matters requiring attention and their communication to banks and for aligning supervisory planning cycles across agencies.
11. The FBAs have a long-established and effective regulatory reporting framework, with the flexibility to expand reporting requirements in response to pressing supervisory needs. There are safeguards built in to guard against redundant data items and information overreach. A lacuna is that supervisory data is not collected from banks at the solo level (i.e. at the level of the bank excluding its subsidiaries), which means supervisors and market participants may not have the information to test whether a bank is adequately capitalized on a stand-alone basis. In practice this omission has little prudential significance under current circumstances as bank subsidiaries tend to be small relative to the parent bank and can only undertake limited activities that the bank itself could undertake in its own name, but supervisors should closely monitor the development of banking groups and consider introducing solo level reporting if the number or size of bank subsidiaries were to expand or banking groups become less transparent.
12. The FBAs have a wide range of supervisory actions available to address safety and soundness concerns and do not hesitate to use them, although follow-up needs to be stricter. The PCA framework is the main plank of the early intervention framework and has clear triggers. The authorities could consider implementing rules for promoting early action for other triggers than bank capital as well as introduce more explicit rules and processes to deal with ageing of MRAs/MRIAs.
Consolidated and cross-border supervision (CP 12-13)
13. Following up on the 2010 FSAP, there have been major improvements in the ability of the FBAs to implement a comprehensive framework for consolidated supervision. Work still remains outstanding, though, on developing regulatory and supervisory rules, guidance, and a formal rating system for SLHCs, as well as on developing a capital rule for corporate and insurance company SLHCs.
14. Reflecting the large cross-border activities of U.S. banks and of foreign banking groups in the U.S., there is a comprehensive framework of policies and processes for co-operation and exchange of information between the FBAs and foreign supervisory authorities. As noted above, this is currently being strengthened by the work in supervisory colleges and in CMGs. The authorities should continue their efforts to establish agreements with their foreign counterparts on a framework of communication strategies, especially for crisis situations. While national treatment is the underlying principle, there remain some instances in which specific rules apply only to foreign institutions, such as the shorter run-off period for foreign branches in liquid asset requirements and requirements on FBOs to set up intermediate U.S. holding companies.
Corporate governance (CP 14)
15. Reflecting the global learnings from the crisis, major changes have taken place in supervisors’ demands on banks’ corporate governance and in the banks’ own approaches. Laws and regulations have gradually raised the requirements and there is clearly heightened focus by boards and management on corporate governance issues. The demands on board involvement and skills have increased substantially and this has, in many instances, led to changes in board composition and calls for wider skill sets of directors. In general, supervisory expectations are tailored to be less strict for smaller, non-systemic banks. This means that there is a shortfall from the criteria, but the assessors judged that this was not sufficiently material to alter their overall conclusions. The assessors welcome that supervisors are encouraging medium and small banks with higher risk activities to adopt better practices in corporate governance and risk management that are appropriate for the risk profile of these firms, moving them closer to the criteria and some of the principles outlined in the requirements for the larger banks.
Risk management, capital adequacy and prudential framework (CP 15-25)
16. There have been substantial improvements in the risk management processes of banks, and risk aggregation has been greatly facilitated by the stress testing requirements. Given the enormity of the task of achieving and sustaining meaningful risk aggregation across the Global Systemically Important Banks (GSIBs), this remains very much work in progress and may take years to complete. Other areas in which progress needs to be made are a better delineation in supervisory guidance of the responsibilities of the board and management and more emphasis on contingency planning, particularly at the smaller end of the banking sector. The level of commitment to stress testing is substantial and there is considerable consensus that the outputs and outcomes of that process were significant in improving risk aggregation. Supervisors and firms were becoming more efficient with each iteration and standards required were also increasing, although there is some way to go before supervisory led stress tests achieve an optimum state of data granularity. There is still room for improvement in firm-led stress testing, where firms seem to be struggling to determine the appropriate severity, whilst maintaining a scenario that remains business relevant.
17. There is a robust and comprehensive approach to setting prudent and adequate capital adequacy requirements, although the U.S. capital regime is in a state of transition. The FBAs have implemented major elements of the Basel II advanced approaches from I January, 2014 and the U.S. standardized approach based on Basel II will begin to come into effect from 1 January, 2015. The broad adoption of the Basel III definition of capital, when applicable to most banks from 1 January 2015, will improve the quality of bank capital by limiting the extent to which certain intangibles, which had previously counted for a high proportion of bank capital, can be included in capital. Stress testing is entrenching a forward-looking approach to capital needs and engaging boards and senior management more fully in the capital planning process. The introduction of risk-based capital rules based on Basel standards for most savings and loan holding companies removes an anomaly created by the previous case-by-case determination of capital requirements for such companies, although a comprehensive capital framework for all savings and loan holding companies is not in place. There are a number of differences between the new U.S. capital regime and the relevant Basel framework, particularly the absence of a capital charge for operational risk and for Credit Value Adjustment (CVA) risk in the U.S. standardized approach, which provides the “floor” for the advanced approach banking organizations and applies to all other banking organizations.
18. The long-established and rigorous process for evaluating banks’ approaches to problem assets and the maintenance of adequate provisions and reserves will be bolstered by accounting changes currently on the anvil. The FBAs have shown a consistent willingness to challenge unrealistic bank estimates of provisions and reserves and to secure increases they judge necessary. This steadfastness in approach will be tested as the U.S. economy continues to improve. Supervisory judgments in this area have been constrained by the “incurred loss” approach of U.S. GAAP, but the introduction of the FASB’s proposed Current Expected Loss Model (CELM) will permit more forward-looking provisioning.
19. The supervisory framework to guard against concentration risk and large exposures needs to be strengthened. The FBAs have an effective supervisory framework for dealing with credit concentration risk. Guidance has been issued on specific areas of concentration of credit risk and this is followed up in supervisory reviews. Supervisors are also giving more attention to the treatment of concentration risk in counterparty credit risk management and stress testing frameworks. However, the new BCP methodology has expanded this Core Principle to also include market and other risk concentrations “where a bank is overly exposed to particular asset classes, products, collateral, or currencies”. While there is some evidence of punctual supervisory action on this front (for instance, funding concentration), at this point a detailed supervisory framework and supervisory guidance for these other risk concentrations is not well developed. Although the widening of the definition of large exposures under the DFA has brought the large exposure thresholds more into line with the requirements of the BCP, some anomalies and omissions remain. The separate and additional limits available to banks for money market investments and security holdings continue to leave open the possibility of excessive risk concentrations. The 50 per cent limit on exposures to a corporate group is also problematic. The authorities are also encouraged to finalize the large exposures framework, with legal limits, for large bank holding companies and foreign banking organizations.
20. In addition, there remain gaps in the related party exposure framework that may heighten concentration risk in the system. There are no formal requirements for prior board approval of transactions with affiliated parties or the write-off of related party exposures exceeding specified amounts, or for board oversight of related party transactions and exceptions to policies, processes and limits on an ongoing basis. However, in practice the FBAs expect banks to apply a high degree of board oversight and monitoring of affiliate and insider transactions and review this as a matter of practice on offsite and onsite examinations. Statutes impose a set of limits on a bank’s exposures to affiliates and insiders that, with one exception, are at least as strict as those for single counterparties or groups of counterparties. The exception is the aggregate limit for lending to insiders of 100 per cent of a bank’s capital and surplus (and 200 per cent for smaller banks). As noted in the 2010 FSAP, this limit is higher than prudent practices and creates the risk that a small group of insiders could deplete the own funds of a bank. There is no formal limit framework for holding company transactions with their affiliates or insiders, which is needed for a comprehensive framework for transactions with related parties. Finally, the “related party” regime in the U.S. regulatory framework does not appear as broad as required by this CP.
21. The approach to interest rate risk in the banking book (IRRBB) is in marked contrast to other key risks and could be usefully updated. The regimes for market and liquidity risks are tiered to support a risk-based approach and are comprehensive and robust, though the former would benefit from the introduction of a de-minimis regime for all banks and the latter from more granular and frequent reporting. The framework for IRRBB stands out with no tiering for example (although supervisory practice seems proportionate to the risk) and the philosophy is firmly principles-based. No specific capital is being set aside against a change in interest rates, nor are any supervisory limits set. Given the stage of the U.S. economic cycle, the inherent interest rate exposure is high and there are particular concentrations in the small bank sector. Updating the 1996 guidance to include more quantitative guidance is merited, as the risk of a principles-based approach is its inconsistency across a sector and across time; as such banks, or a group of banks may be overly exposed.
22. Similarly, the overall regime for operational risk outside the AMA banks has not reached a sufficient level of maturity. There is no overall definition of operational risk, or structured guidance on identification, management and mitigation of operational risks. Guidance for banks under AMA (at the time of this assessment, only 8 banks) is well specified, however for all other bank operational risk management falls within the scope of “general” risk management. Guidance for other banks is disparate, and the weakness is compounded by the absence of a comprehensive reporting regime. There is not a standardized capital charge for operational risk. At the time of the assessment, several initiatives were underway. The FBAs are placing increasing emphasis on operational risk issues and are coordinating on the production of additional inter-agency guidance, as well as identifying and seeking mitigation of a number of issues in their vertical and horizontal reviews. They are also alert to the changing threat landscape, such as the escalation of fines and other penalties from litigation as well as cyber risks. Dealing with cyber risk is a top priority across all agencies and will pose coordination and operational challenges given the nature of the risk and the pressing need to collaborate with other arms of government.
Controls, audit, accounting, disclosure and abuse of financial services (CP 26-29)
23. The bar for audit and control functions has clearly been raised in the wake of the crisis, while further refinements are needed in the framework for abuse of financial services. The internal audit function is the subject of greater supervisory attention and expectations have been significantly raised though, in contrast, there is little mention of the compliance function except with reference to the regime of the Bank Secrecy Act and Anti-Money Laundering. Further, while significant resources are deployed by both the authorities and the firms to meet the BSA/AML standards, the attention to vulnerabilities to other forms of criminal abuse (e.g. theft, burglary) is more disparate. In addition, the regulatory framework at the time of the assessment did not include adequate identification of the ultimate beneficiary owner of legal entity clients, or processes for dealing with domestic Politically Exposed Persons (PEPs). On the external audit front, there is no requirement for an external auditor to report immediately directly to the supervisor, should they identify matters of significant importance, although this gap is mitigated by the frequent contact between supervisors and auditors in the course of planning and examinations.
24. The disclosure regime represents best practice in some respects. The public disclosure of supervisory call reports promotes market discipline and is worthy of global emulation. There remain a few gaps though. Not all banks are required to issue full financial standards that are reviewed by an independent accountant in accordance with independent audit requirements and the U.S. definition of “reporting on a solo basis” differs in that it does not collect or disclose data on a “bank stand-alone basis.”
Introduction
25. This assessment of the current state of the implementation of the Basel Core Principles for Effective Banking Supervision (BCP) in the United States has been completed as part of a FSAP update undertaken by the International Monetary Fund (IMF) from 21 October to 10 November 2014. It reflects the regulatory and supervisory framework in place as of the date of the completion of the assessment. It is not intended to represent an analysis of the state of the banking sector or crisis management framework, which are addressed in the broader FSAP exercise.
26. An assessment of the effectiveness of banking supervision requires a review of the legal framework, and detailed examination of the policies and practices of the institutions responsible for banking regulation and supervision. In line with the BCP methodology, the assessment focused on the three FBAs as the main supervisors of the banking system, and did not cover the specificities of regulation and supervision of other financial intermediaries, which are covered by other assessments conducted in this FSAP. The assessment did not cover supervision conducted by local State regulators,2 the supervision of credit unions, or the activities of the CFPB. As the three federal agencies are the primary regulators of most depository institutions in the country, this assessment should provide a useful picture of current supervisory processes applicable to banks in the United States.
A. Information and Methodology Used for Assessment
27. The U.S. authorities agreed to be assessed according to the Revised BCP Methodology issued by the BCBS (Basel Committee of Banking Supervision) in September 2012. The current assessment was thus performed according to a revised content and methodological basis as compared with the previous BCP assessment carried out in 2009. It is important to note, for completeness’ sake, that the two assessments will not be directly comparable, as the revised BCP have a heightened focus on risk management and its practice by supervised institutions and its assessment by the supervisory authority, raising the bar to measure the effectiveness of a supervisory framework (see box for more information on the Revised BCP).
28. The U.S. authorities also chose to be assessed and rated against not only the Essential Criteria, but also against Additional Criteria. To assess compliance, the BCP Methodology uses a set of essential and additional assessment criteria for each principle. The essential criteria (EC) were usually the only elements on which to gauge full compliance with a CP. The additional criteria (AC) are recommended best practices against which the U.S. authorities have agreed to be assessed and rated. This option was not available to assessed countries before the 2012 Revised BCP. The assessment of compliance with each CP is made on a qualitative basis to allow a judgment on whether the criteria are fulfilled in practice. Effective application of relevant laws and regulations is essential to provide indication that the criteria are met. A four-part grading system is used: compliant; largely compliant; materially noncompliant; and noncompliant. This is explained below in the detailed assessment section.
29. The assessment team3 reviewed the framework of laws, rules, and guidance and held extensive meetings with U.S. officials, and additional meetings with banking sector participants and other stakeholders (auditors, associations, etc). The authorities provided a self-assessment of the CPs rich in quality and comprehensiveness, as well as detailed responses to additional questionnaires, and facilitated access to supervisory documents and files, staff and systems.
30. The team appreciated the very high quality of cooperation received from the authorities. The team extends its thanks to staff of the authorities who provided excellent cooperation, including extensive provision of documentation and access, at a time when staff was burdened by many initiatives related to the implementation of global regulatory changes under Basel III and further national regulatory changes under the Dodd-Frank Wall Street Reform and Consumer Protection Act (DFA).
31. The standards were evaluated in the context of the U.S. financial system’s structure and complexity. The CPs must be capable of application to a wide range of jurisdictions whose banking sectors will inevitably include a broad spectrum of banks. To accommodate this breadth of application, a proportionate approach is adopted within the CP, both in terms of the expectations on supervisors for the discharge of their own functions and in terms of the standards that supervisors impose on banks. An assessment of a country against the CPs must, therefore, recognize that its supervisory practices should be commensurate with the complexity, interconnectedness, size, and risk profile and cross-border operation of the banks being supervised. In other words, the assessment must consider the context in which the supervisory practices are applied. The concept of proportionality underpins all assessment criteria. For these reasons, an assessment of one jurisdiction will not be directly comparable to that of another.
32. An assessment of compliance with the BCPs is not, and is not intended to be, an exact science. Reaching conclusions required judgments by the assessment team. Nevertheless, by adhering to a common, agreed methodology, the assessment should provide the U.S. authorities with an internationally consistent measure of the quality of its banking supervision in relation to the CPs, which are internationally acknowledged as minimum standards.
The 2012 Revised BCP
The revised BCPs reflect market and regulatory developments since the last revision, taking account of the lessons learnt from the financial crisis in 2008/2009. These have also been informed by the experiences gained from FSAP assessments as well as recommendations issued by the G-20 and FSB, and take into account the importance now attached to: (i) greater supervisory intensity and allocation of adequate resources to deal effectively with systemically important banks; (ii) application of a system-wide, macro perspective to the microprudential supervision of banks to assist in identifying, analyzing and taking preemptive action to address systemic risk; (iii) the increasing focus on effective crisis preparation and management, recovery and resolution measures for reducing both the probability and impact of a bank failure; and (iv) fostering robust market discipline through sound supervisory practices in the areas of corporate governance, disclosure and transparency.
The revised BCPs strengthen the requirements for supervisors, the approaches to supervision and supervisors’ expectations of banks. The supervisors are now required to assess the risk profile of the banks not only in terms of the risks they run and the efficacy of their risk management, but also the risks they pose to the banking and the financial systems. In addition, supervisors need to consider how the macroeconomic environment, business trends, and the build-up and concentration of risk inside and outside the banking sector may affect the risk to which individual banks are exposed. While the BCP set out the powers that supervisors should have to address safety and soundness concerns, there is a heightened focus on the actual use of the powers, in a forward-looking approach through early intervention.
The number of principles has increased from 25 to 29. The number of essential criteria has expanded from 196 to 231. This includes the amalgamation of previous criteria (which means the contents are the same), and the introduction of 35 new essential criteria. In addition, for countries that may choose to be assessed against the additional criteria, there are 16 additional criteria.
While raising the bar for banking supervision, the BCP must be capable of application to a wide range of jurisdictions. The new methodology reinforces the concept of proportionality, both in terms of the expectations on supervisors and in terms of the standards that supervisors impose on banks. The proportionate approach allows assessments of banking supervision that are commensurate with the risk profile and systemic importance of a wide range of banks and banking systems.
33. To determine the observation of each principle, the assessment has made use of five categories: compliant; largely compliant, materially noncompliant, noncompliant, and non-applicable. An assessment of “compliant” is given when all EC and ACs are met without any significant deficiencies, including instances where the principle has been achieved by other means. A “largely compliant” assessment is given when there are only minor shortcomings, which do not raise serious concerns about the authority’s ability to achieve the objective of the principle and there is clear intent to achieve full compliance with the principle within a prescribed period of time (for instance, the regulatory framework is agreed but has not yet been fully implemented). A principle is considered to be “materially noncompliant” in case of severe shortcomings, despite the existence of formal rules and procedures and there is evidence that supervision has clearly not been effective, the practical implementation is weak or that the shortcomings are sufficient to raise doubts about the authority’s ability to achieve compliance. A principle is assessed “noncompliant” if it is not substantially implemented, several ECs are not complied with, or supervision is manifestly ineffective. Finally, a category of “non-applicable” is reserved for those cases that the criteria would not relate the country’s circumstances.
B. Institutional and Market Structure—Overview4
34. The U.S. has a large, diverse financial sector, with assets stabilizing at about 480 percent of GDP since the crisis. Depository institutions (mostly banks), pension funds, mutual funds and insurance companies account for around 70 percent of the financial sector assets. The structure of the financial system, by sectors, has been relatively stable since the last FSAP. Only mutual funds’ assets have increased whereas Asset Backed Securities (ABS) issuers have continued to reduce their balance sheets and the proportion of credit market debt owed by Government-Sponsored Enterprises (GSEs) has increased. The structure of the financial system, by instruments, has also not changed drastically in the last four years. However, the corporate equities’ market has grown in size and the mortgage market has shrunk. Financial sector’s share of corporate profits has reached a record high in early 2000s, after dipping to a record low in 2008 and returning to its longer-term trend by 2013 while its contribution to gross value added has remained relatively stable. The U.S. financial system contributes about 20 percent to the U.S. GDP and around 25 percent of U.S. corporate profits.
35. Credit intermediation is decentralized. While depository institutions are present in almost every credit market, no single sector dominates the overall credit market. GSEs and banks are the main providers of mortgage credit (the largest credit market). Banks also play an important role in consumer credit market (together with finance companies) and in the market for agency and GSE-backed securities (together with Fed and mutual funds). Broker-dealers are the main players on securities repos market, whereas insurance sector and mutual funds are the main source of financing of corporate debt securities
36. The pension funds sector is the largest financial sector accounting for about 20 percent of total financial sector assets. Private pension funds account for one half of pension funds’ assets and the other half pertains to federal, state and local government retirement funds. The structure of the pension system has been stable since 2010, with defined benefit plans (45 percent of pension funds’ liabilities) representing the largest share of the system.5 The sector’s assets are diversified across debt securities and shares and the remainder across investments in MMF and mutual funds shares and private equity.
37. The banking sector holds 16 percent of all assets held by financial institutions. Banks are the second largest financial sector after pension funds. The overall number of banks has been on a downward trend since early 1990s and has fallen to an all time low level in 2014q1. The number of problem banks has decreased significantly, from around 500 at the peak in 2010 to around 200, but still above the number before the crisis.
38. Banks’ balance sheets and income statements have strengthened. Comparing to a period before the crisis, banks now hold more liquid assets, grant less loans and hold less trading account assets (both in absolute and relative terms). At the same time, banks have attracted more deposits, hold more capital, rely less on credit borrowing and are less leveraged. Profits have reached pre-crisis levels (in nominal terms) mainly due to lower provisions and lower interest expenses. The coverage ratio has stabilized since 2009, and the net charge off rate is slightly above the level before the crisis. However, the results from the CCAR stress tests show that, if hit by a severe global market shock, banks’ capital ratios would fall significantly and banks would face sizable losses from trading activities. For investment banks, a non-trivial dependence on wholesale funding continues to be a source of vulnerability in periods of severe financial market distress.
39. The U.S. banking system is less concentrated than the banking systems of other industrialized countries. The five largest banks account for about 45 percent of the U.S. banking system’s total assets6 (which is twice the share 10 years ago) and around 40 percent of GDP. Eight large banks are designated as G-SIBs. While the proportion of the largest five banks has stabilized over the last four year, the share of banks with asset size larger than $10 bn has continued to increase since 2009.
40. The insurance sector assets correspond to a half of the banking sector assets. Life insurers account for largest part of insurance sector assets. Three U.S. insurers, AIG, Prudential and MetLife have been designated as G-SIIs. The first two have been designated by the Financial Stability Oversight Council (FSOC) as non-bank SIFIs and the latter is in the process of designation. The insurance sector in the U.S. is less concentrated than in other countries—top 10 insurers account for 58 percent (life insurance), 71 percent (health insurance) and 46 percent (in P&C) of the market.
41. Financial intermediation outside the traditional banking system is estimated at 90 percent of GDP, and the debt securities market is dominated by corporate debt securities, treasury securities and GSE backed securities. While the banking sector has continued to grow after the crisis, the size of the shadow banking system7 has contracted substantially since the peak in 2007 mainly due to lower borrowing of ABS issuers. GSEs are the only segment of the shadow banking system that is now larger than before the crisis. The nominal value of outstanding debt securities at end-2013 amounted to about $39 trillion (230 percent of GDP). Corporate bonds, including ABS securities, accounted for a third of this, of which half were issued by non-financial corporations and 10 percent by ABS issuers (down from 30 percent before the crisis). The proportion of treasury securities has almost doubled since 2007 (from 17 percent to 32 percent).
42. The U.S. derivatives market represents 1/3 of the world market. The notional amount of outstanding contracts totaled $237.0 trillion8 (1400 percent of GDP) and has been relatively stable since 2010. The market is dominated by a small group of large financial institutions—four large commercial banks (JPMorgan Chase, Citibank, Bank of America and Goldman Sachs) represent 93 percent of the total banking industry notional amounts.9 Derivative contracts are concentrated in interest rate products, which comprise 82 percent of total derivative notional amounts. Foreign exchange contracts represent 12 percent of the derivatives market and credit derivatives (mostly Credit Default Swaps) 5 percent of total derivatives notionals. Swap contracts represent the bulk of the derivatives market (64 percent of all notionals) followed by futures and forwards (18 percent) and options (14 percent).
Structure for banking supervision
43. The United States operates under a “dual banking system.” A bank charter may be issued by the federal government or by a state. Federal bank charters for “national banks” and “federal savings associations” are issued by the OCC. Each of the 50 states has a banking authority that charters banks under its own laws and regulations. These banks are generally referred to as “state banks” or “state savings associations.” Each U.S. bank, whether chartered under state or federal law, is subject to regulation, supervision, and examination by a primary federal banking supervisor, irrespective of whether the bank is part of a broader organization:
for national banks and federal savings associations, the OCC;
for state banks that choose to be members of the Federal Reserve System (state member banks), the Federal Reserve;
for state banks that choose not to become members of the Federal Reserve System (nonmember banks) and state savings associations, the FDIC.
Table 1.
Summary of Primary Federal Supervisory Responsibilities
Table 1.
Summary of Primary Federal Supervisory Responsibilities
| Component | Supervisor and Regulator | ||
|---|---|---|---|
| Holding companies (including financial holding companies | Federal Reserve | ||
| Nonbank subsidiaries of holding companies | Federal Reserve/Functional Regulator | ||
| National banks | OCC | ||
| State banks | |||
| Members | Federal Reserve | ||
| Nonmembers | FDIC | ||
| Savings and loan associations (aka “savings associations”) | OCC or FDIC based on federal or state charter, respectively | ||
| U.S. offices of FBOs - subs, branches and agencies* | |||
| State-licensed | Federal Reserve | ||
| Federally licensed | OCC | ||
| *There are some grandfathered, insured FBO branches. If these grandfathered branches are state-chartered, the primary federal supervisor is the FDIC and if federally chartered, the primary federal supervisor is the OCC. | |||
| Designated Nonbank Financial Company | Federal Reserve | ||
Table 1.
Summary of Primary Federal Supervisory Responsibilities
| Component | Supervisor and Regulator | ||
|---|---|---|---|
| Holding companies (including financial holding companies | Federal Reserve | ||
| Nonbank subsidiaries of holding companies | Federal Reserve/Functional Regulator | ||
| National banks | OCC | ||
| State banks | |||
| Members | Federal Reserve | ||
| Nonmembers | FDIC | ||
| Savings and loan associations (aka “savings associations”) | OCC or FDIC based on federal or state charter, respectively | ||
| U.S. offices of FBOs - subs, branches and agencies* | |||
| State-licensed | Federal Reserve | ||
| Federally licensed | OCC | ||
| *There are some grandfathered, insured FBO branches. If these grandfathered branches are state-chartered, the primary federal supervisor is the FDIC and if federally chartered, the primary federal supervisor is the OCC. | |||
| Designated Nonbank Financial Company | Federal Reserve | ||
44. The FDIC operates the federal deposit insurance program. In addition to its authority to examine state nonmember banks, the FDIC has the authority to examine for insurance purposes any bank, either directly or in cooperation with state or other federal supervisory authorities. The FDIC has backup enforcement authority over all banks. The FDIC can recommend that another federal banking agency take action against a bank in appropriate circumstances and may take such action directly if the other agency does not take action.
45. The OCC is responsible for chartering, regulating, and supervising all national banks and federal savings associations and for supervising federal branches and agencies of foreign banks.
46. Holding companies are supervised by the Federal Reserve. The Federal Reserve is responsible for regulating and supervising any company that owns or controls a national or state bank. BHCs and their subsidiaries may engage in activities that are closely related to banking. Certain BHCs that, along with their depository institution subsidiaries, meet enhanced capital and managerial standards, may elect to become financial holding companies (FHCs) and engage in a broader array of financial activities, including securities, insurance, and merchant banking. The Federal Reserve is the consolidated supervisor of all BHCs and FHCs on a worldwide consolidated basis. The Federal Reserve also regulates and supervises SLHCs, which, like BHCs, may choose to be treated as FHCs if they and their depository institution subsidiaries meet enhanced capital and managerial standards and, thereby, engage in a broader array of financial activities.
Table 2.Source: Federal Reserve Board
Supervised Institutions
(As of June 30, 2014)
Table 2.
Source: Federal Reserve Board
Supervised Institutions
(As of June 30, 2014)
| Agencies | Supervised Institutions | ||
|---|---|---|---|
| Number | Total Assets ($ billions) | ||
| OCC | 1,628 | 10,408 | |
| FDIC | 4,131 | 2,536 | |
| Federal Reserve System | |||
| State Member Banks | 860 | 2,188 | |
| Bank Holding Companies | 4,452 | 17,429 | |
| Savings and Loan Holding Companies | 314 | 2,230 | |
| Foreign Banking Organizations (Program FBOs) | 165 | 5,337 | |
Table 2.
Source: Federal Reserve Board
Supervised Institutions
(As of June 30, 2014)
| Agencies | Supervised Institutions | ||
|---|---|---|---|
| Number | Total Assets ($ billions) | ||
| OCC | 1,628 | 10,408 | |
| FDIC | 4,131 | 2,536 | |
| Federal Reserve System | |||
| State Member Banks | 860 | 2,188 | |
| Bank Holding Companies | 4,452 | 17,429 | |
| Savings and Loan Holding Companies | 314 | 2,230 | |
| Foreign Banking Organizations (Program FBOs) | 165 | 5,337 | |
47. FBOs may do business in the United States under a policy of “national treatment” which gives FBOs the same powers and applies the same limitations as are given and applied to domestic banks. No FBO may establish a branch or an agency, or acquire ownership or control of a commercial lending company, without the prior approval of the Federal Reserve. All banks and branches or agencies of FBOs have a primary federal regulator. If the FBO chooses a federal license for a branch or agency, then it is supervised and examined solely by the OCC. If an FBO elects to open a branch or agency under a state license, then it is typically examined by the state banking authorities and also by the Federal Reserve on a joint or alternate (i.e., rotating) basis. The Federal Reserve relies on the OCC or state banking agencies to perform examinations and supervision depending on the form of organization and the charter the FBO receives to take in the country.
48. Since the last FSAP, important changes have taken place in the legal and regulatory framework for banks. In response to the crisis, the U.S. Congress enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act or DFA).10 The Act creates an interagency council to monitor and coordinate responses to emerging threats to the financial system (FSOC); requires that large bank holding companies and systemically designated nonbank financial firms be subject to enhanced prudential standards to reduce the risks they may present to the financial system; provides for the consolidated supervision of all systemically important financial institutions; gives the government an important additional tool to safely wind down financial firms whose failure could pose a threat to U.S. financial stability; and provides for the strengthened supervision of systemically important payment, settlement, and clearing utilities.
49. The Dodd Frank Act has made important changes related to banking regulation and supervision., The Act: (i) enhances the limitations on transactions among a BHC, a subsidiary bank, and its affiliates;11 (ii) incorporates a financial stability factor into the statutory analysis of transactions governed by the Bank Holding Company Act (BHC Act) and the Bank Merger Act;12 (iii) incorporates financial stability considerations into the supervision of holding companies; (iv) enhances the requirement for holding companies to be eligible to engage in expanded activities;13 (v) generally eliminates the limitations under the Gramm-Leach-Bliley Act that restricted the Federal Reserve’s ability to examine, obtain reports from, or take enforcement action against a functionally regulated subsidiary of a BHC, such as a broker-dealer or insurance company;14 (vi) authorizes the Federal Reserve to examine the activities of nonbank subsidiaries of holding companies—other than functionally regulated subsidiaries—that are permissible for the organization’s subsidiary banks in the same manner, subject to the same standards, and with the same frequency as if such activities were conducted in the organization’s lead subsidiary depository institution; (vii) prohibits a depository institution that is subject to a formal enforcement order or memorandum of understanding with respect to a significant supervisory matter from converting its charter unless the current and proposed supervisors establish a plan that addresses the problems at the depository institution and that will be implemented and monitored by the new supervisor; and (viii) applies the national bank and savings association loans-to-one borrower limitation to credit exposures arising from derivative transactions and securities financing transactions.15
50. The Dodd-Frank Act also established a new Financial Stability Oversight Council (FSOC) charged with important duties such as monitoring and identifying emerging risks to financial stability across the entire financial system, identifying potential regulatory gaps, and coordinating the agencies’ responses to potential systemic risks. The voting membership of the FSOC is composed of the Treasury Secretary (who is also chairperson of the FSOC); the heads of the three FBAs (FBAs); the heads of the Consumer Financial Protection Bureau (CFPB), Securities and Exchange Commission (SEC), Commodities Futures Trading Commission (CFTC), Federal Housing Finance Agency (FHFA), and National Credit Union Administration (NCUA); and an independent member with insurance expertise appointed by the President and confirmed by the Senate.
51. In addition, the FSOC has the task to designate as systemically important large, interconnected nonbank financial firms. Once designated, these nonbank financial companies are subject to consolidated supervision by the Federal Reserve and enhanced prudential standards. The FSOC has designated three nonbank financial companies: American International Group, Inc., General Electric Capital Corporation, Inc., and Prudential Financial, Inc. In addition, the Act authorizes the FSOC to designate financial market utilities (FMUs) as systemically important if the FSOC determines that that the failure of or a disruption to the functioning of the FMU could pose a threat to U.S. financial stability. Designated FMUs are also subject to heightened prudential and supervisory provisions. In 2012, the FSOC designated eight FMUs as systemically important: The Clearing House Payments Company L.L.C. (on the basis of its role as operator of the Clearing House Interbank Payments System); CLS Bank International; Chicago Mercantile Exchange, Inc.; The Depository Trust Company; Fixed Income Clearing Corporation; ICE Clear Credit LLC; National Securities Clearing Corporation (NSCC); and The Options Clearing Corporation.
52. The DFA also requires the Federal Reserve to conduct and publish summary results of annual stress tests of systemic nonbank financial firms and BHCs with $50 billion or more in assets. Such firms also are required to conduct their own stress tests on a semiannual basis. The DFA requires financial firms with more than $10 billion in assets to conduct annual stress tests in accordance with regulations established by the respective primary federal financial regulatory agency.
53. The new legislation requires that foreign banking organizations with U.S. non-branch assets of $50 billion or more be required to establish a U.S. intermediate holding company over their U.S. subsidiaries. The foreign-owned U.S. intermediate holding company generally will be subject to the same risk-based and leverage capital standards applicable to U.S. bank holding companies. The intermediate holding companies also will be subject to the Federal Reserve’s rules requiring regular capital plans and stress tests. Like U.S. BHCs with assets of $50 billion or more, a foreign banking organization with combined U.S. assets of $50 billion or more will be required to establish a U.S. risk committee and employ a U.S. chief risk officer, and will be required to meet enhanced liquidity risk-management standards. FBOs with total consolidated assets of $50 billion or more, but combined U.S. assets of less than $50 billion, are subject to enhanced prudential standards. However, the capital, liquidity, risk-management, and stress testing requirements applicable to these foreign banking organizations are substantially less than those applicable to foreign banking organizations with a larger U.S. presence.
54. Finally, the DFA dissolved the Office of Thrift Supervision (OTS) and transferred its plenary regulatory and supervisory authority, including the authority to supervise, issue rules, and take enforcement actions, with respect to SLHCs and savings associations to the FBAs: the Federal Reserve regulates SLHCs, the OCC regulates federally chartered savings associations, and the FDIC regulates state-chartered savings associations.
C. Preconditions for Effective Banking Supervision16
Macroprudential framework and cooperation17
55. In addition to the FSOC’s coordinating role, the FFIEC plays an important role in developing uniform approaches among the FBAs and acts as a forum for sharing of technical information. To promote consistency in the examination and supervision of banks and holding companies, in 1978 Congress created the Federal Financial Institutions Examination Council (FFIEC). The FFIEC is composed of the chairpersons of the FDIC and the National Credit Union Administration, the Comptroller of the Currency, the Director of the CFPB, and a governor of the Federal Reserve. As the result of legislation in 2006, the Chair of the FFIEC State Liaison Committee serves as a sixth member of the FFIEC. The State Liaison Committee is composed of five representatives of state agencies that supervise financial institutions. The FFIEC’s objectives are to prescribe uniform federal principles and standards for the examination of depository institutions, to promote coordination of bank supervision among the U.S. FBAs, and to encourage better coordination of federal and state regulatory activities. Through the FFIEC, state and U.S. FBAs may exchange views on important regulatory issues. Among other things, the FFIEC has developed uniform financial reports for federally supervised banks to file with their appropriate federal regulator. In addition to the FFIEC and longstanding information sharing practices, FSOC was created to provide a central body for coordinating the activities of the federal financial regulators, including the FBAs. Among other activities, FSOC has the ability to issue a nonbinding recommendation to any of its member agencies to take a particular action.
Financial Safety Nets and Crisis Management18
56. Numerous liquidity back-stops were provided by the Fed during the crisis but subsequent legislative changes appear to limit its ability to similarly respond in the future. During the crisis additional backstops were provided to mitigate specific risks, for example: (i) run risk in the money market funds sector; (ii) collateral fire sale risk faced by primary dealers in TPR, and (iii) funding risk faced by depository institutions. The DFA (section 214) and changes to the Federal Reserve Act (section 13.3) now seem to limit the provision of such assistance. The Fed’s standing credit facilities (“discount window”) may benefit from reform. The primary credit facility, for higher rated institutions, allows for borrowing on a ‘no questions asked’ basis while access to the secondary credit facility has conditions attached. But in both cases, activity must be disclosed under the Freedom of Information Act with a two year lag. Separating the two more clearly might help reduce stigma that is still associated with ‘normal’ use and with it, reluctance to access the facility (this would focus stigma on the ‘emergency’ use facility).
57. The resolution regime for financial institutions has been enhanced. Title II (“Orderly Liquidation Authority”, OLA) of the DFA, enacted in July 2010, has extended the Federal Deposit Insurance Corporation’s (FDIC) resolution authority to “financial companies”. OLA mandates the appointment of the FDIC as receiver if the Secretary of the Treasury (in consultation with the President) determines that a financial company for which a systemic risk determination has been made is in default or in danger of default, would have a serious adverse effect on the financial stability and no viable private sector alternative is available to prevent the default.
58. Detailed requirements for ‘living wills’ seek to ensure the feasibility of a rapid and orderly resolution, but recent reviews of large banks suggest major shortcomings. The DFA requires covered financial companies to prepare plans for the orderly winding-up of such companies in the event of material financial distress or failure. While financial companies generally have made progress in the preparation of these plans, the Board of Governors of the Federal Reserve System and the FDIC concluded in August 2013 that the plans submitted by the eleven largest banking organizations (still) reflect important shortcomings, including failures to address structural and organizational impediments to orderly resolution. The affected organizations have been instructed to improve their resolvability and update their recovery plans accordingly by July 2015.
Market discipline, business environment, accounting and auditing19
59. Business laws in the United States, including contract, bankruptcy, and property law, are well-developed and reliable. Contract law is established by the combination of common law and state statute. The enforceability of contracts is well-established and enforced by the courts. Laws establishing the enforceability of security interests (i.e., interests in property conveyed to collateralize loans) are governed, primarily, under Article 9 of the Uniform Commercial Code. The enforcement of mortgages of real property is upheld under (non-uniform) state laws. Federal bankruptcy laws incorporate protections for both creditors and debtors. Property rights are protected under the Bill of Rights of the U.S. Constitution and under state laws.
60. Business law disputes are typically resolved in state trial courts of general jurisdiction. Federal courts are available when the claim involves federal law or when a state law claim involves parties from different states. A right of appeal exists in both the federal and state systems. Contracts, both commercial and consumer, are sometimes permitted to also provide for mandatory arbitration rather than dispute resolution through the courts.
61. The United States possesses an independent judiciary and well-regulated accounting, auditing, and legal professions. The judicial system is comprised of both federal and state systems. Judges in both federal and state courts must be members of the bar and generally have significant experience as practicing lawyers before becoming judges. Federal judges are appointed by the President with the advice and consent of the Senate and receive lifetime appointments. States vary in their methods of judicial appointment. Some follow a system similar to the federal system, i.e., the state governor appoints judges with some input from the legislature. Some states, however, appoint judges through a general election.
62. Lawyers must receive a license to practice law from a state or states. All states but one (Wisconsin) require applicants who are not already members of another state’s bar to pass a bar examination prior to receiving a license. In addition to controlling admission into the profession, the states also regulate the profession. Regulation is often delegated to a self regulatory organization, i.e., a state bar association. Lawyers are also subject to ethical standards set by the states.
63. U.S. accounting standards (U.S. GAAP) are established by the Financial Accounting Standards Board (FASB). Both the FASB and International Accounting Standards Board are currently working on a convergence program, designed to bring U.S. and international financial reporting standards (IFRS) into a single framework.
64. Financial statement audit requirements are robust, having been considerably strengthened in 2002 with the passage of the Public Company Accounting Reform and Investor Protection Act (also known as the Sarbanes-Oxley Act). The Sarbanes-Oxley Act enhanced audit scrutiny, toughened auditor independence requirements, required various management attestations about the reliability of financial accounts, and expanded disclosure requirements with the objective of providing the users of financial statements with greater security as to their accuracy and reliability.
Detailed Assessment
65. The assessment of compliance of each principle is made based on the following four-grade scale: compliant, largely compliant, materially noncompliant, and noncompliant. A “not applicable” grading can be used under certain circumstances.
Compliant: a country will be considered compliant with a Principle when all essential criteria applicable for this country are met without any significant deficiencies. There may be instances, of course, where a country can demonstrate that the Principle has been achieved by other means. Conversely, due to the specific conditions in individual countries, the essential criteria may not always be sufficient to achieve the objective of the Principle, and therefore other measures may also be needed in order for the aspect of banking supervision addressed by the Principle to be considered effective.
Largely compliant: A country will be considered largely compliant with a Principle whenever only minor shortcomings are observed that do not raise any concerns about the authority’s ability and clear intent to achieve full compliance with the Principle within a prescribed period of time. The assessment “largely compliant” can be used when the system does not meet all essential criteria, but the overall effectiveness is sufficiently good, and no material risks are left unaddressed.
Materially non-compliant: A country will be considered materially non-compliant with a Principle whenever there are severe shortcomings, despite the existence of formal rules, regulations and procedures, and there is evidence that supervision has clearly not been effective, that practical implementation is weak, or that the shortcomings are sufficient to raise doubts about the authority’s ability to achieve compliance. It is acknowledged that the “gap” between “largely compliant” and “materially non-compliant” is wide, and that the choice may be difficult. On the other hand, the intention has been to force the assessors to make a clear statement.
Non-compliant: A country will be considered non-compliant with a Principle whenever there has been no substantive implementation of the Principle, several essential criteria are not complied with, or supervision is manifestly ineffective.
A. Supervisory Powers, Responsibilities and Functions
| Principle 1 | Responsibilities, objectives and powers. An effective system of banking supervision has clear responsibilities and objectives for each authority involved in the supervision of banks and banking groups.20 A suitable legal framework for banking supervision is in place to provide each responsible authority with the necessary legal powers to authorize banks, conduct ongoing supervision, address compliance with laws and undertake timely corrective actions to address safety and soundness concerns.21 | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The responsibilities and objectives of each of the authorities involved in banking supervision22 are clearly defined in legislation and publicly disclosed. Where more than one authority is responsible for supervising the banking system, a credible and publicly available framework is in place to avoid regulatory and supervisory gaps. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | As discussed more fully in CP 5, the United States operates under a “dual banking system” under which a bank may choose to be chartered by the federal government or by a state. Each U.S. bank, whether chartered under federal or state law, is subject to regulation, supervision and examination by a primary federal banking agency (FBA), irrespective of whether it is part of a broader organization. Following the DFA reforms, the division of responsibilities for the FBAs are:
In addition, the FDIC has the authority to examine, for deposit insurance purposes, any bank, either directly or in cooperation with state banking agencies or other FBAs. The Federal Reserve has responsibility for supervision of bank holding companies and savings and loan holding companies, as well as for certain nonbank financial companies designated by the FSOC, which is discussed below. The Federal Reserve also has broad supervisory oversight over the U.S. banking operations of foreign banking organizations, but relies on the OCC or state banking agencies, as appropriate, to conduct examinations and supervision. In effect, then, each domestic bank has at least two regulators. For example, an insured national bank that is part of a Bank Holding Company (BHC) will be subject to supervision by the OCC, the Federal Reserve and the FDIC. If the bank has assets above $10 billion, it and its affiliates will also by overseen by the Consumer Financial Protection Bureau (CFPB) with respect to compliance with certain consumer financial protection statutes (see below). Each FBA operates pursuant to an express statutory grant of authority. In addition, agencies are mandated to administer various specific statutes that contain implicit or explicit goals (e.g., related to fair lending, community reinvestment, or bank secrecy and anti-money laundering/counter terrorist financing). FBAs also exercise competition authority powers with respect to bank mergers, using Department of Justice criteria. Legislation creating the agencies does not contain explicit and clear statements of mission or mandate. However, the substantive requirements imposed on agencies by statute provide the basis for the agencies’ publicly reported and longstanding objectives and responsibilities. State supervisory agencies also operate pursuant to an express statutory grant of authority. These agencies are outside the scope of this BCP assessment (as is the CFPB). However, the assessors did meet with state supervisory agencies and their representatives to understand the mechanisms in place to coordinate and collaborate with their federal counterparts. The DFA resulted in significant changes to the U.S. regulatory structure. The changes included dissolution of the Office of Thrift Supervision (OTS) and the creation of two new bodies—an independent Consumer Financial Protection Bureau (CFPB) within and funded by the Federal Reserve, and the FSOC. The CFPB has rulemaking authority for most federal consumer financial protection statutes, as defined in the DFA. It also has authority to conduct examinations, require reports and take enforcement actions with respect to these statutes in the case of banking organizations with assets of more than $10 billion and their affiliates. For smaller banking organizations, consumer compliance examination authority has remained with the applicable FBA. The FSOC is charged with: monitoring and identifying risks to financial stability across the entire U.S. financial system; identifying regulatory gaps; promoting market discipline; and coordinating agencies’ responses to potential systemic risks. However, the FSOC has no formal responsibility for overseeing financial crises or for guiding the development and implementation of consistent policy responses. The voting membership of the FSOC is composed of the Treasury Secretary (who is also chairperson of the FSOC); the heads of the three FBAs; the heads of the Consumer Financial Protection Bureau (CFPB), Securities and Exchange Commission (SEC), Commodities Futures Trading Commission (CFTC), Federal Housing Finance Agency (FHFA), and National Credit Union Administration (NCUA); and an independent member with insurance expertise appointed by the President and confirmed by the Senate. The FSOC is instructed by the DFA to designate as “systemically important” large, interconnected nonbank financial firms that are to be subject to consolidated supervision by the Federal Reserve and enhanced prudential standards. The FSOC has no direct supervisory powers but may make recommendations to its member agencies on the development of financial policies and rule making. The assessors met with staff from the FSOC. In addition to the operation of the FSOC, formal and informal mechanisms are in place to encourage cooperation and information sharing among the financial regulatory agencies. Foremost of the formal mechanisms is the FFIEC, with representatives from the FBAs and CFPB at head-of-agency level and from regulators of state-chartered banks and credit unions. The FFIEC’s objectives are to prescribe uniform federal principles and standards for the examination of depository institutions, to promote coordination of bank supervision among the FBAs and to encourage better coordination of federal and state regulatory agencies. The assessors met with the FFIEC. The range of informal mechanisms is discussed in CP 3. | ||||||||||||||||||||||||||||||
| EC 2 | The primary objective of banking supervision is to promote the safety and soundness of banks and the banking system. If the banking supervisor is assigned broader responsibilities, these are subordinate to the primary objective and do not conflict with it. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | Each FBA has the objective of promoting safe and sound banking practices in the U.S. and maintaining stability and public confidence in the banking system. The FBAs have authority to issue regulations or guidelines as deemed necessary to ensure the safety and soundness of the banks under their jurisdiction. See e.g., 12 U.S.C. § 93a (OCC); 12 U.S.C. § 1819 (FDIC); 12 U.S.C. §§ 248, 1844 (Federal Reserve); 12 U.S.C. § 1831p-1 (all FBAs). In addition, under the DFA, the FBAs and other financial regulatory agencies are required to supplement their traditional supervision and regulation of individual firms or markets with consideration of threats to the stability of the financial system as a whole. At the same time, the FBAs each have other objectives that they see as complementary, rather than subordinate, to their safety and soundness objectives. The OCC has the added objectives of assuring fair access to financial services and fair treatment of customers. The Federal Reserve has the objectives of maintaining the stability of the financial system and containing systemic risk that may arise in financial markets and influencing money and credit conditions in the economy in pursuit of full employment and stable prices. The FDIC has an additional objective of minimizing the disruptive effects that can occur within the financial system when bank or nonbank financial firms fail. | ||||||||||||||||||||||||||||||
| EC3 | Laws and regulations provide a framework for the supervisor to set and enforce minimum prudential standards for banks and banking groups. The supervisor has the power to increase the prudential requirements for individual banks and banking groups based on their risk profile23 and systemic importance.24 | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | Under existing legislation, the FBAs have delegated authority for the imposition of prudential standards and they also issue guidance and manuals that describe supervisory expectations. The banking statutes, regulations and certain guidelines establish a framework of minimum prudential standards that banks and holding companies must meet, while policy statements, interpretations, and supervisory guidance and manuals (including the Federal Reserve’s Supervision and Regulation (SR) Letters) establish best practices that banks and holding companies are expected to meet. Taken together, the regulatory framework addresses such matters as capital adequacy, loan underwriting, single borrower and related party exposure limits, asset quality, loan losses and provisioning, risk management (including requirements for addressing specific types of risks), internal controls and audits, accounting standards, liquidity, Anti-Money Laundering and Combating the Financing of Terrorism (AML/CFT) and anti-fraud measures, among others. In addition, certain large bank holding companies, including foreign banking organizations and systemically significant nonbank financial companies, are subject to enhanced prudential standards. The DFA requires the enhanced prudential standards established by the Federal Reserve under section 165 to be more stringent than those standards applicable to other bank holding companies and nonbank financial companies that do not present similar risks to U.S. financial stability (12 U.S.C. § 5365(a)(1)(a)). The standards must also increase in stringency based on the systemic footprint and risk characteristics of companies subject to section 165 (12 U.S.C. 5365(a) (1) (B)). Generally, the Federal Reserve has authority under section 165 to tailor the application of the standards, including differentiating among companies subject to section 165 on an individual basis or by category. The FBAs generally have the authority to examine affiliates of banks under their supervision. In addition, the Federal Reserve generally has the authority to examine and obtain reports from a holding company and its affiliates so that it can be informed of, among other things, the companies’ conditions and stability of the U.S. financial system. The DFA eliminated previous restrictions on the Federal Reserve, imposed under the Gramm-Leach- Bliley Act, on the Federal Reserve’s ability to examine, obtain reports from, or take enforcement action against a functionally regulated subsidiary of a BHC, such as a broker-dealer or insurance company. | ||||||||||||||||||||||||||||||
| EC4 | Banking laws, regulations and prudential standards are updated as necessary to ensure that they remain effective and relevant to changing industry and regulatory practices. These are subject to public consultation, as appropriate. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | Several factors ensure that banking laws and regulations are regularly reviewed and updated as necessary to remain effective and relevant to changing industry and regulatory practices. A number of statutes require the FBAs to review their regulations at regular intervals to ensure that they remain relevant and effective and to reduce the burden on regulated entities. These reviews are conducted through a process that allows for widespread public (including industry) participation in developing more efficient and relevant rules. In many instances, changes in statutory provisions are adopted by Congress in response to specific crises or market failures, industry concerns or recommendations, or to update banking laws to address changes in the marketplace. Changes also may be made in response to judicial decisions. In some cases, the FBAs have the discretion to determine the most effective form (e.g., regulations, guidelines, supervisory guidance, interpretations, etc.) in which to promulgate revised or new requirements. Depending on the urgency or nature of issues to be addressed, change may be made as part of the agencies’ regular, periodic review of regulations, or may occur more quickly through the development and issuance of policy statements or guidelines. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor has the power to:
| ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The FBAs have broad statutory authority to obtain a broad array of information from supervised entities and their affiliates, including financial data and information on their activities, operations, structure, corporate governance, risk management and any other details, in the form and with such frequency as the agencies deem necessary to determine and enforce compliance with applicable laws and ensure the safety and soundness of banks. Banks and their affiliates must provide the FBAs with full and complete access to their books, records and employees; failure to do so can result in the imposition of administrative sanctions. These duties extend to the foreign operations of banks and their affiliates, although the laws of foreign host countries may restrict U.S. banks in such countries from sharing certain information with the FBAs. The FBAs must also have full and complete access to the work papers, reports and other relevant materials of external auditors responsible for conducting an external audit of the banks. Institutions are subject to potentially significant monetary penalties for failure to make available information or reports, to submit reports on a timely basis, or for submitting or publishing any false or misleading report or information. As an essential component of consolidated supervision, the Federal Reserve maintains an understanding of all material parts of banking groups and nonbank financial groups subject to its supervision, including their domestic and cross-border operations. The Federal Reserve generally relies to the fullest extent possible on relevant primary supervisors and functional regulators for information about financial institutions within holding companies (see CP12). The local operations of foreign banks are subject to prudential, inspection and regulatory reporting requirements similar to those applicable to domestic banks. In general, these requirements can be found in the statutes and regulations applicable to domestic banks and in the International Banking Act and its implementing regulations (see CP13). The assessors saw a range of supervisory material confirming the access of the FBAs to bank boards and staff, and relevant records, to conduct detailed examinations. | ||||||||||||||||||||||||||||||
| EC6 | When, in a supervisor’s judgment, a bank is not complying with laws or regulations, or it is or is likely to be engaging in unsafe or unsound practices or actions that have the potential to jeopardize the bank or the banking system, the supervisor has the power to:
| ||||||||||||||||||||||||||||||
| Description and findings re EC6 | The FBAs have broad authority to take (or require a bank to take) remedial measures when, in their judgment, a bank or holding company is not complying with laws or regulations or is, or is likely to be, engaged in an unsafe or unsound practice. In general, these authorities provide supervisors with both a range of proactive and remedial measures to address matters of concern and the discretion to determine when to employ them. The measures include restricting the current activities and operations of the organization, requiring new remedial activities, withholding or conditioning approval of new activities or acquisitions, restricting or suspending payments to shareholders or share repurchases, restricting asset transfers, barring individuals from banking, replacing or restricting the powers of managers, board directors or controlling owners, facilitating a takeover by or merger with a healthier institution, providing for the interim management of the bank, closing an institution and revoking its banking license, and issuing monetary fines against institutions and individuals (The Federal Reserve’s ability to appoint a conservator or receiver to close a bank is more limited by statute than the OCC’s or FDIC’s). The FBAs have the authority to cooperate and collaborate to achieve an orderly resolution of a bank; by statute, the FDIC is always appointed the receiver for closed insured banks. In general, remedial measures are imposed according to the extent and severity of the problem being addressed (see CP11). The assessors reviewed a number of examples of the different types of remedial measures. | ||||||||||||||||||||||||||||||
| EC7 | The supervisor has the power to review the activities of parent companies and of companies affiliated with parent companies to determine their impact on the safety and soundness of the bank and the banking group. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | As noted in EC5 above, as an essential component of consolidated supervision, the Federal Reserve maintains an understanding of all material parts of banking groups and nonbank financial groups subject to its supervision, including their domestic and cross-border operations. The Federal Reserve has the power to review the activities of parent holding companies and of companies affiliated with those and uses this power to determine and ensure the safety and soundness of bank subsidiaries. In addition, the OCC may examine affiliates of national banks. See 12 U.S.C. § 481. | ||||||||||||||||||||||||||||||
| Assessment of Principle 1 | Largely Compliant | ||||||||||||||||||||||||||||||
| Comments | The DFA reforms have resulted in some rationalization of responsibilities in the U.S. supervisory structure, with the dissolution of the OTS and the absorption of its responsibilities for federal savings associations by the OCC. Taken on its own, the assessors see this as a positive step forward. In principle, the establishment of a specialized, stand-alone consumer protection regulator should also help to provide greater clarity of purpose for the FBAs. Nonetheless, the problems associated with multiple regulators with distinct but overlapping mandates, highlighted in the 2010 Detailed Assessment Report (DAR), differ only in form but not substance. In particular, the supervisory structure involves substantial duplication of supervisory effort, carries a significant burden of ensuring cooperation and coordination, and runs the ongoing risk of inconsistent messages from the agencies. The assessors readily acknowledge the legislative constraints on the FBAs and welcomed the obvious determination of the FBA staff with whom they met to ensure that the revamped supervisory structure works effectively. The assessors also acknowledge the substantial commitment of the FBAs to safety and soundness. Within the legislative constraints, however, the assessors recommend further effort in two particular, and related, areas. The first is the mandate of the FBAs. Each of the mandates refers in different ways to the objective of safety and soundness. This objective has been underscored by the DFA and is manifest in the substantial commitment of additional resources in each of the agencies to safety and soundness. Nonetheless, the legislative mandates do not make explicit that the primary objective of each agency is to promote the safety and soundness of banks and the banking system, as this CP emphasizes. The FBAs have asserted that there is no confusion on the part of the agencies, the public or industry that the focus of bank supervision and regulation relates to safety and soundness. This may well be the case in the aftermath of the financial crisis, but the emphasis may shift over time if political or economic pressures were to bring other priorities, such as employment growth, to the fore. The assessors recommend that, in the absence of legislative change, each of the FBAs revisit their “mission and vision” statements to ensure they give primacy to safety and soundness and to clarify that the pursuit of other objectives must be consistent with, and if necessary subordinate to, that goal. The assessors note that an international peer review of the OCC’s supervision of large and mid-sized institutions made a similar recommendation in respect of the OCC. The second is the division of responsibilities between safety and soundness, and consumer protection. In other jurisdictions, the establishment of a specialized consumer regulator has freed the bank supervisor to focus on safety and soundness matters. In those jurisdictions, the supervisor needs to be able to respond to operational and reputational risks associated with a bank’s poor performance in dealing with customers, but it does not generally become involved in particular consumer matters. The U.S. arrangements as they stand may not, in the assessors’ view, achieve this greater clarity of purpose. The FBAs retain their responsibilities for consumer protection issues in banking institutions with assets of $10 billion or less and, as the assessors understand it, for particular consumer issues in institutions above that threshold. Given the legislative framework and the current resourcing of the CFPB, these arrangements may be the only way forward at this point. Nonetheless the assessors recommend that the FBAs and the CFPB explore ways to reduce duplication of effort, in matters such as risk reviews, and over time look to pursue opportunities for a more coherent division of responsibilities between safety and soundness, and consumer protection. In the assessors’ view, there remains further work on making the new supervisory structure more focused and effective, and they judge that a “Largely Compliant” rating is warranted. | ||||||||||||||||||||||||||||||
| Principle 2 | Independence, accountability, resourcing and legal protection for supervisors. The supervisor possesses operational independence, transparent processes, sound governance, budgetary processes that do not undermine autonomy and adequate resources, and is accountable for the discharge of its duties and use of its resources. The legal framework for banking supervision includes legal protection for the supervisor. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The operational independence, accountability and governance of the supervisor are prescribed in legislation and publicly disclosed. There is no government or industry interference that compromises the operational independence of the supervisor. The supervisor has full discretion to take any supervisory actions or decisions on banks and banking groups under its supervision. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | As discussed under CP 1, each FBA operates pursuant to an express statutory grant of authority and has clearly defined objectives and responsibilities. Statutes and regulations provide supervisors clear and broad authority to address compliance with laws and the safety and soundness of institutions under their jurisdiction. In general, these authorities provide supervisors with both a range of proactive and remedial measures to address matters of concern and the discretion to determine when to employ them. Federal statutes also provide for the operational independence of each FBA. In addition to this statutory protection, other factors are intended to ensure the operational independence and accountability of each FBA, and these are discussed further below. They include the circumstances for appointment and removal of agency heads; the self-funding nature of the agencies and independence from the congressional budget process; accountability to, consultations with and testimony before and other submissions to Congress; multiple provisions for external review of, or public reporting on, agency operations; requirements to make records of the agency available to the public through various specified means, including upon request, under certain circumstances; adherence to requirements for establishing, meeting and reporting publicly on periodic operational performance targets; availability of judicial review for agency decisions; required annual reporting on regulatory and supervisory actions taken during the year; legal protection for supervisory staff acting within the scope of their employment; and conflicts of interest, financial disclosure and other similar restrictions applicable to agency personnel, including supervisory staff. The assessors saw no evidence of any constraints or intrusions on the operational independence of the FBAs by government or industry (see also EC 4 below). Clearly, however, the financial crisis has considerably increased political scrutiny of the agencies and raised expectations of stronger agency performance, which the assessors consider has been reflected in more intense and conservative supervisory approaches. For the FBAs, the organizing statutes, implementing regulations, guidelines and other resources are (and are required to be) made publicly available, including on the website of each agency. (See 5 U.S.C. § 552(a)). | ||||||||||||||||||||||||||||||
| EC2 | The process for the appointment and removal of the head(s) of the supervisory authority and members of its governing body is transparent. The head(s) of the supervisory authority is (are) appointed for a minimum term and is removed from office during his/her term only for reasons specified in law or if (s)he is not physically or mentally capable of carrying out the role or has been found guilty of misconduct. The reason(s) for removal is publicly disclosed. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | Laws establishing the FBAs specify the appointment process for the heads of the agencies, which is for a fixed term, but there are no laws specifying the reasons for removal of agency heads. The U.S. President, with the advice and consent of the Senate, appoints the heads. The Comptroller of the Currency is appointed to a five-year term, but can be removed by the President for cause prior to the expiration of his/her term, with the reasons to be laid before the Senate. During the Comptroller’s tenure, he/she also serves as a director of the FDIC, as does the Director of the CFPB. The FDIC’s three remaining directors are appointed by the President to six-year terms, although one of the appointed members is designated as Chairman for a five-year term. Members of the Federal Reserve Board of Governors are appointed to a full or to an unexpired portion of a 14-year term. One of the members is designated to serve as Federal Reserve Chairman, and another of the members is designed to serve as Vice Chairman, for a four-year term. All of these FBA positions are non-partisan, and there is no expectation that agency heads will resign at the conclusion of the term of the President who appointed them. See 12 U.S.C. § 2 (OCC); 12 U.S.C. § 242 (Federal Reserve); and 12 U.S.C. § 1812 (FDIC). | ||||||||||||||||||||||||||||||
| EC3 | The supervisor publishes its objectives and is accountable through a transparent framework for the discharge of its duties in relation to those objectives.25 | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | Each of the FBAs complies with the Government Performance and Results Act of 1993, which requires federal agencies, in consultation with Congress and outside stakeholders, to prepare a strategic plan covering a multiyear period and submit an annual performance plan and performance report. See 5 U.S.C. § 306 and 31 U.S.C. § 1115. The performance plans and assessments are incorporated into the agencies’ annual reports, which are required to be made public. The agencies also are required, by separate statute, to report annually on regulatory and supervisory actions taken during the year. The FBAs’ strategic plans and performance reports related to regulation and supervision are high-level documents. They set out broad strategic objectives and, though the formats differ between the agencies, they provide discussion on roles and responsibilities, potential risks and challenges, and means and strategies. Few objective performance targets or measures are specified; those that are relate mainly to the completion of examination cycles or the initiation of enforcement actions within timeframes prescribed by statute or agency policy. In the assessors’ view, the strategic plans and performance reports are helpful in improving public understanding of the priorities and activities of the FBAs, and the assessors would encourage the agencies to develop performance metrics related to outcomes as well as activities. Oversight and accountability to Congress occur through various statutory reporting and frequent extensive hearings on various financial regulatory issues. This scrutiny has become more intense since the financial crisis began. The independence of agencies in expressing their views to Congress in testimony is specified by law. On behalf of Congress, the Government Accounting Office (GAO) conducts and publishes audits of the agencies’ performance. In 2009, the GAO placed the U.S. financial regulatory structure on its “high risk” list of matters warranting attention by Congress and the Executive branch of government. This was because of the GAO’s view that significant market developments in recent decades have outpaced a fragmented and outdated regulatory structure and significant reforms to the U.S. regulatory system are critically and urgently needed. The GAO considers that the U.S. financial regulatory structure remains on its “high risk” list; issues of continuing concern are the large regulatory agenda still to be completed, the challenge for regulators in identifying and monitoring systemic risk, and whether current initiatives will be effective in addressing the “too-big-to-fail” problem. In addition to oversight by the GAO, each FBA has an independent Inspector General (IG) that performs audits and evaluations of its operations. The IGs are also required by legislation to perform material loss reviews (which are published) of any bank failure that cost the FDIC insurance fund more than a specified materiality threshold level (now set at $50 million). In September 2011, the IG of the Federal Reserve published its “lessons learned” from a series of community bank failures in the crisis; a common theme from the supervision perspective was that, even when key safety and soundness risks had been identified, supervisors did not take sufficient action in a timely manner. This IG advised the assessors that the “pipeline” of failed banks subject to material loss reviews has shrunk considerably, allowing the IG to reallocate resources to assess aspects of the supervision of systemically important financial institutions. | ||||||||||||||||||||||||||||||
| EC4 | The supervisor has effective internal governance and communication processes that enable supervisory decisions to be taken at a level appropriate to the significance of the issue and timely decisions to be taken in the case of an emergency. The governing body is structured to avoid any real or perceived conflicts of interest. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | Each of the FBAs has a unique internal governance and accountability structure for supervision and regulation involving authority and review at various regional or central levels. Within each agency there are processes for delegation of various supervision and regulation functions. For example, within the Fed system, Reserve Bank Presidents have delegated authority for supervisory matters from the Board. In each agency, considerable day-to-day authority for supervision decisions (such as ratings of institutions) is vested in the examiner-in-charge (EIC) for each bank. Each agency has review processes that can result in changes in these assessments in exceptional cases. The structure of the various agencies leads to their own internal review and coordination processes, which differ somewhat from agency to agency. There are also processes to allow banks to appeal formal decisions of the FBAs including ratings and proposed enforcement actions. The agencies have sought to improve these internal governance and accountability arrangements in response to the crisis and to lessons learned. The assessors discussed the changes with each of the FBAs. Broadly, the changes have involved more centralized direction and oversight, improved reporting of risk issues to newly established high-level risk committees, and greater coordination between head office and regional and field offices to achieve a better blending of horizontal and vertical assessments of risk. The governance rules (legislation and/or by-laws) for the Federal Reserve district banks allow for two-thirds of the boards of these banks to be appointed by the regulated commercial banks. These boards, in turn, have the right to appoint the officers of the Reserve Banks (including those in charge of supervision) and to have a say in their compensation, and are involved in approving the budget. In principle, this may raise concerns—actual or perceived—about potential conflicts of interest in the governance structure of the Federal Reserve in the handling of supervisory matters. Federal Reserve staff advised the assessors that, in practice, the boards are not involved in any way in operational supervisory matters and the assessors saw no indications to the contrary. Nonetheless, these longstanding governance rules for Federal Reserve district banks appear out of line with the importance now being attached globally to board independence and are worthy of review. At the least, board charters should make explicit that boards do not engage in supervisory matters and a robust conflict of interest framework is in place. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor and its staff have credibility based on their professionalism and integrity. There are rules on how to avoid conflicts of interest and on the appropriate use of information obtained through work, with sanctions in place if these are not followed. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The FBAs require that agency heads and all staff maintain high professional standards and exhibit high integrity. Federal laws and regulations, as well as individual conflict-of-interest rules and codes of conduct of each of the FBAs, help to ensure that these standards are met. For some of the agencies, there are specific statutes governing ethical conduct. For example, the Comptroller of the Currency and Federal Reserve staff are subject to statutory restrictions on activities and affiliations that might raise conflicts of interests. See, e.g., 12 U.S.C. §§ 11 (unlawful for the Comptroller to hold an interest in a national bank) and 241, 242 (respectively prohibiting Federal Reserve members from holding office in or stock of a member bank). Similarly, FDIC employees are prohibited from owning stock in any FDIC-regulated entity. In addition, members of the FDIC Board of Directors are prohibited from holding any office, position or employment in any bank or holding company during their time in office and for two years after they leave office, subject to certain exceptions. See 12 U.S.C. § 1812. Senior examination staff of the FBAs are generally subject to a one-year post-employment “cooling off” period with respect to entities they supervised. Violators are subject to civil monetary penalties, can be removed from office and can be prohibited from participating in the affairs of the bank, the holding company, or any other company for up to five years. Examiners also are prohibited from accepting loans or gratuities from banks that they examine. OCC employees are also barred from representing another party before the Federal Government in a matter in which they participated as an OCC employee; the restriction is either two years or permanent. These standards are reinforced by a number of criminal statutes, including those prohibiting corruption, bribery, theft and fraud by agency employees. These laws are actively enforced. The FBAs have administrative policies to ensure that appropriate codes of conduct are being followed. These policies outline the requirements for examiners and other supervisory staff concerning investment prohibitions, borrowing prohibitions and recusal requirements based on considerations such as family, debt, or prior employment relationships. The assessors were impressed by the caliber of the agency staff they met, and banks and banking associations also attested to the professionalism and integrity of FBA staff. | ||||||||||||||||||||||||||||||
| EC6 | The supervisor has adequate resources for the conduct of effective supervision and oversight. It is financed in a manner that does not undermine its autonomy or operational independence. This includes:
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| Description and findings re EC6 | Each of the FBAs is self-funding and, thus, is not subject to the congressional budget process or congressional appropriations. The assessors were advised by each agency that it has the budget needed to increase the intensity of its supervision and oversight, which has been a major priority in recent years. Indeed, since the crisis the FBAs have achieved a significant build-up of staffing resources, particularly in the supervision of large banking organizations, policy implementation and stress testing. The Federal Reserve, in particular, has significantly increased staffing in its supervision and regulatory policy areas. Each of the FBAs sets its own salary scales for its employees, having regard to salaries paid to other financial regulatory agencies, federal government and private sector salaries. Although the FBAs do not seek to match higher-end private sector salary scales, the subdued market conditions over recent years have enabled the FBAs to attract experienced hires from the financial and banking community to supplement their traditional preference for entry-level recruitment. The FBAs have intensified their staff training to match the influx of recruits. The FBAs also indicated to the assessors that they have the budget to meet travel needs associated with on-site work (including reviews of the offshore operations of U.S. banking institutions) and to participate in relevant policy fora and supervisory colleges. | ||||||||||||||||||||||||||||||
| EC7 | As part of their annual resource planning exercise, supervisors regularly take stock of existing skills and projected requirements over the short- and medium-term, taking into account relevant emerging supervisory practices. Supervisors review and implement measures to bridge any gaps in numbers and/or skill-sets identified. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | Each of the FBAs undertakes an internal evaluation process to ensure that it has the staffing resources and skills to meet its supervisory needs. The assessors were advised that staffing requirements are generally determined from the “ground up” in the process of developing strategies and performance plans, and the assessors saw documents on this process. Active hiring and retention programs are used to attract and retain staff with the necessary critical skills. The FBAs offer comprehensive training for their staff, including a structured skills enhancement program to qualify as an examiner-in-chief. The FBAs also have the flexibility to bring in specialist staff on a fixed-term basis, as the FDIC has done to manage the significant increase in the number of bank workouts during the crisis. | ||||||||||||||||||||||||||||||
| EC8 | In determining supervisory programs and allocating resources, supervisors take into account the risk profile and systemic importance of individual banks and banking groups, and the different mitigation approaches available. | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | By statute, the FBAs are required to conduct a full-scope, onsite exam of each bank at least once during each twelve-month period. However, the agencies can lengthen this cycle to 18 months for banks that meet certain asset size thresholds and supervisory rating criteria. See 12 U.S.C. § 1820(d)(4). Figures provided to the assessors (see table in CP 9) show that institutions subject to the longer review cycle account for a majority of regulated institutions but only a small percentage of total system assets. The FBAs utilize a risk-based supervisory approach. As part of this approach, supervisory programs are applied that are appropriate to the geographic scope and degree of specialization, sophistication, risk, size and complexity of the activities and organization of banks. In general, those entities presenting the greatest risk receive the most intense, frequent and comprehensive scrutiny. Supervisory programs allocate resources to each risk area, taking into account the intended frequency and intensity of risk assessments. As noted throughout this BCP assessment, each of the FBAs has increased the staffing resources allocated to the supervision of large banking organizations, reflecting the complexity and systemic importance of these organizations and the heightened supervisory focus on stress testing. | ||||||||||||||||||||||||||||||
| EC9 | Laws provide protection to the supervisor and its staff against lawsuits for actions taken and/or omissions made while discharging their duties in good faith. The supervisor and its staff are adequately protected against the costs of defending their actions and/or omissions made while discharging their duties in good faith. | ||||||||||||||||||||||||||||||
| Description and findings re EC9 | The FBAs and their staffs are generally protected against lawsuits for actions and/or omissions made while discharging their duties in good faith. Sovereign immunity bars lawsuits without specific statutory authorization to pursue such litigation. Common law qualified immunity protects FBAs’ heads and staff from liability for the violation of an individual’s Constitutional rights in connection with the performance of discretionary functions, as long as the employee’s conduct does not clearly violate established statutory or Constitutional rights. Lawsuits are permitted against FBAs’ employees for acts and/or omissions that cause injuries while acting within the scope of their employment. In such a case, the U.S. would substitute itself as the defendant upon the Attorney General’s certification that an employee was acting within the scope of his office or employment. Moreover, an exception to the relevant act protects employees from lawsuits involving the execution of a statute or regulation or the exercise/ failure to exercise a discretionary function, whether or not the employee abused the discretion involved. | ||||||||||||||||||||||||||||||
| Assessment of Principle 2 | Compliant | ||||||||||||||||||||||||||||||
| Comments | Since the crisis, political and community expectations about the performance of the FBAs have heightened and the FBAs have responded by strengthening their accountability and transparency. This would be aided by further development of performance measures focused on supervisory outcomes. The FBAs have also improved their internal decision-making processes and have stepped up their supervisory intensity, particularly towards large banking organizations. Delivery on these various initiatives has required a substantial commitment of additional resources and specialized skills. The assessors welcome the success of the FBAs in strengthening their capacities. The challenge ahead will be to retain those capacities as U.S. economic conditions continue to improve and specialist skills in areas such as stress testing and risk modeling become even more attractive to industry. The assessors encourage the FBAs to keep their hiring programs flexible and responsive, and their training programs fully funded. As noted in the 2010 DAR, the independence of the Federal Reserve’s supervisory role would be further assured if the governance rules for the boards of Federal Reserve district banks were made consistent with emerging global good practice; at the least, greater clarity and transparency about the role of these boards in operational supervisory matters is needed. | ||||||||||||||||||||||||||||||
| Principle 3 | Cooperation and collaboration. Laws, regulations or other arrangements provide a framework for cooperation and collaboration with relevant domestic authorities and foreign supervisors. These arrangements reflect the need to protect confidential information.26 | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | Arrangements, formal or informal, are in place for cooperation, including analysis and sharing of information, and undertaking collaborative work, with all domestic authorities with responsibility for the safety and soundness of banks, other financial institutions and/or the stability of the financial system. There is evidence that these arrangements work in practice, where necessary. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | The FBAs have broad statutory powers to share information with other domestic banking supervisors. See e.g., 12 U.S.C. §§ 1817 (a)(2)(A) and (C) on sharing with FDIC, a state or federal agency with supervisory or regulatory authority over the bank or other entity, or any appropriate person and 3412(e) on sharing of financial records, reports of examination or other information about a bank, holding company or bank or holding company subsidiary among and between the five FFIEC member supervisory agencies, as well as the SEC, CFTC, FTC and CFPB. The FBAs have a number of formal and informal mechanisms for information sharing, which forms an integral part of supervisory programs for the consolidated supervision of banks and holding companies. The FBAs routinely share information with each other. This typically occurs at the time of formation of a banking group, authorization of a new activity, changes in a banking group’s structure, as well as during supervisory activities, in crisis situations, and as part of periodic meetings among supervisors. Examination findings are also shared between the FBAs, as appropriate. Since the crisis, the FBAs have enhanced their collaboration in a number of ways, including: the sharing of supervisory plans for review and comment; quarterly meetings of examiners of large banks to discuss heightened risk areas and upcoming targeted reviews; increased joint supervisory presence at examinations of systemically important banks; joint participation in the Federal Reserve’s horizontal reviews: and a stronger commitment to issue joint supervisory guidance when possible. The FBAs routinely exchange information with state supervisory agencies. The assessors were advised, however, that these agencies do not necessarily consult with the FBAs (or with foreign supervisors) when the agencies take enforcement actions. The FBAs are also seeking to improve information with functional regulators, such as the SEC and the CFTC, related to securities companies in a banking group or a financial conglomerate that includes a bank. A MoU between the OCC and the SEC was finalized in September 2014. The FBAs also have formal arrangements with state insurance supervisors to coordinate and plan supervisory activities, both on a routine and an emergency basis, with respect to particular banking groups that have significant insurance operations. The Federal Reserve makes available relevant information to other banking agencies and functional regulators regarding the financial condition, risk-management policies and operations of a holding company that may have a material impact on an individual regulated subsidiary. The other FBAs make information about bank subsidiaries of holding companies available to the Federal Reserve and to each other. Other functional regulators also provide information to the FBAs concerning regulated entities within U.S. banking groups that may have an adverse effect on the banks within the group. As noted in CP1, the FSOC facilitates regulatory coordination and information sharing among the member agencies, among other responsibilities. The Federal Reserve, OCC, CFPB and FDIC are members. | ||||||||||||||||||||||||||||||
| EC2 | Arrangements, formal or informal, are in place for cooperation, including analysis and sharing of information, and undertaking collaborative work, with relevant foreign supervisors of banks and banking groups. There is evidence that these arrangements work in practice, where necessary. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The FBAs have broad statutory authority to share relevant supervisory information with foreign financial sector (banking and functional) supervisors of banks and banking groups of interest to the home or host supervisor (see, e.g., 12 U.S.C. § 3109). The FBAs may disclose information obtained in the course of exercising their supervisory or examination authority; they may also assist foreign banking supervisors by investigating and collecting information and evidence where the foreign supervisor is conducting an investigation to determine whether a person has violated, is violating or is about to violate any law or regulation enforced by that supervisor. The FBAs have entered into bilateral formal information-sharing and cooperation arrangements (e.g., memoranda of understanding and statements of cooperation) with a number of foreign supervisors, and additional arrangements are in process. These arrangements cover the sharing of confidential supervisory information, with an emphasis on host-to-home sharing to support home supervisors’ consolidated supervision of the financial groups for which they have responsibility. The arrangements contain a number of requisite provisions to govern the confidentiality of information. The arrangements also provide for on-site examinations by home authorities of cross-border operations in the host jurisdiction. The FBAs are authorized to share relevant supervisory information even in the absence of a formal arrangement, and in practice they share significant information whether acting in a home or host capacity. The assessors saw evidence that these arrangements are working in practice. | ||||||||||||||||||||||||||||||
| EC3 | The supervisor may provide confidential information to another domestic authority or foreign supervisor but must take reasonable steps to determine that any confidential information so released will be used only for bank-specific or system-wide supervisory purposes and will be treated as confidential by the receiving party. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | The FBAs are subject to a general statutory prohibition on disclosing certain types of confidential financial information unless the law specifically authorizes such sharing. In addition, each FBA’s regulations, which have the force of law, require confidential treatment of a broad range of non-public supervisory information. In general, prior to engaging in information sharing, the FBAs require assurances that the information will be used only for lawful supervisory purposes and will be kept confidential. Under the International Banking Act, the FBAs must determine that disclosure to a foreign bank supervisor is appropriate and would not prejudice the interest of the U.S. (see 12 U.S.C. § 3109(a)). In addition, the FBAs must obtain, to the extent necessary, the recipient’s agreement to keep the information confidential to the “extent possible under applicable law” (see 12 U.S.C. § 3109(b)). | ||||||||||||||||||||||||||||||
| EC4 | The supervisor receiving confidential information from other supervisors uses the confidential information for bank-specific or system-wide supervisory purposes only. The supervisor does not disclose confidential information received to third parties without the permission of the supervisor providing the information and is able to deny any demand (other than a court order or mandate from a legislative body) for confidential information in its possession. In the event that the supervisor is legally compelled to disclose confidential information it has received from another supervisor, the supervisor promptly notifies the originating supervisor, indicating what information it is compelled to release and the circumstances surrounding the release. Where consent to passing on confidential information is not given, the supervisor uses all reasonable means to resist such a demand or protect the confidentiality of the information. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | The FBAs are able to deny demands for confidential information in their possession except in limited situations. Such information may be subpoenaed by a court, a grand jury or a committee of the U.S. Congress. When feasible, an agency that is being compelled to provide confidential information received from another supervisor (domestic or foreign) will notify such supervisor and make reasonable efforts to resist disclosure. The FBAs also must notify and provide information to U.S. law enforcement authorities if they receive indications of a possible violation of criminal law. Under the International Banking Act, confidential material provided by a foreign supervisor will have broad protection from compelled onward disclosure if certain conditions are met. If these conditions are met, the FBAs could not be compelled to disclose such information except to a committee of the U.S. Congress or to comply with an order of a U.S. court. | ||||||||||||||||||||||||||||||
| EC5 | Processes are in place for the supervisor to support resolution authorities (e.g. central banks and finance ministries as appropriate) to undertake recovery and resolution planning and actions. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The broad statutory authority of the FBAs to share information with other domestic and foreign financial authorities would include sharing relevant recovery- and resolution-related information with foreign resolution authorities, central banks and finance ministries with responsibility for resolution. See, e.g., 12 U.S.C §§ 1817(a)(2)(A) and (C); 12 U.S.C. § 3109. Such information may be provided on a bilateral basis under existing memoranda of understanding (or similar arrangements) or in response to specific requests. In the U.S., the FDIC is both the resolution authority and a direct supervisor. Therefore, coordination is an integral part of the FDIC’s activities as the resolution authority, and ongoing relationships with the other FBAs and state supervisory agencies provide the basis for effecting resolutions in an orderly and timely manner. Recovery and resolution planning also takes place in the CMGs established for large U.S. banking groups. The U.S. regulatory authorities have been working with their foreign counterparts to complete cooperation agreements (COAGs) that will facilitate work in the CMGs by establishing a framework for cooperation and the protection of sensitive supervisory information. The FBAs participate as home and host authorities of firms designated as global systemically important financial institutions by the Financial Stability Board in numerous firm-specific CMGs for the purposes of developing crisis management strategies and resolution plans for such firms. The FBAs also participate as home and host authorities in supervisory colleges established for a number of banking institutions at which recovery plans created by those institutions are reviewed. | ||||||||||||||||||||||||||||||
| Assessment of Principle 3 | Compliant | ||||||||||||||||||||||||||||||
| Comments | The U.S. system of multiple FBAs with distinct but overlapping responsibilities puts an absolute premium on effective domestic cooperation and collaboration if consolidated supervision is to be targeted, comprehensive and timely. The assessors are satisfied that the FBAs have made a substantial effort since the crisis to improve their performance in this area, and this was also acknowledged in meetings with staff from all three agencies. The improvements are evident in the sharing of strategic planning and institution-specific supervisory plans, the greater frequency of interagency meetings, the increased number of examinations and other visits conducted jointly, the sharing of information, and efforts to ensure consistent messaging to banking organizations. However, consistency may not always be achieved when the FBAs bring different perspectives to a current issue, a concern raised by banks with which the assessors met in the context of recent guidance on leveraged lending. It is important that the effort be maintained and that collaboration becomes fully engrained in the modus operandi of each agency, so as to avoid any temptation to “go it alone” when crisis pressures next emerge. To this end, the assessors recommend that the FBAs ensure that the preparation of supervisory plans is on the same cycle or, when that is not practicable, that supervisory strategies for individual institutions are carefully coordinated and that necessary specialized resources are available. Internationally, the establishment of supervisory colleges and CMGs has given greater urgency to information-sharing arrangements, which have moved or are moving to more formal footings. The assessors have accepted the views put by each of the FBAs that there are no legal or other impediments to their ability and willingness to cooperate and collaborate with foreign supervisors. The actual performance of supervisory colleges was beyond the scope of this assessment and the assessors did not review papers from supervisory colleges. International cooperation would be further strengthened if state supervisory agencies consulted fully, in all cases, with the FBAs and foreign supervisors on impending enforcement actions. The assessors were made aware of circumstances where this was not the case. Although this is a clear deficiency in cooperation arrangements, the assessors did not judge it as sufficient to lower the “Compliant” rating for CP 3, but improvements in such consultations should be a high priority. | ||||||||||||||||||||||||||||||
| Principle 4 | Permissible activities. The permissible activities of institutions that are licensed and subject to supervision as banks are clearly defined and the use of the word “bank” in names is controlled. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The term “bank” is clearly defined in laws or regulations. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | Federal and state laws expressly provide for the establishment, operation, permissible activities and transactions, and supervision of entities referred to as “banks.” In general, a “bank” is an institution (a) incorporated or chartered either under federal or state law; (b) authorized to engage in activities as specified under applicable law, typically including accepting demand deposits and engaging in the business of making loans; and (c) subject to supervision by state or federal authorities. Hence, the term “bank” is defined in terms of its range of permitted activities. Laws also provide for the establishment of specialized institutions that engage in some activities also permitted banks, but that generally are not called “banks.” These include “savings associations.” They provide many of the same services as banks and are supervised similarly. There is a small number of other more specialized institutions supervised by the FDIC that are not subject to the full gamut of banking regulations (e.g., industrial loan companies, trust companies, credit card banks and single purpose banks). These latter institutions, through “grandfathering clauses,” provide typical banking services and may remain in the deposit insurance scheme. Collectively, however, they have only a small share of the U.S. banking market. | ||||||||||||||||||||||||||||||
| EC2 | The permissible activities of institutions that are licensed and subject to supervision as banks are clearly defined either by supervisors, or in laws or regulations. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | Federal and state banking laws and regulations provide clear parameters on permissible activities and transactions for banks. The National Bank Act, the Home Owners’ Loan Act and implementing regulations specify the permissible activities of national banks and federal savings associations, respectively. In general, banks are limited to a set of activities considered to be “banking” or related and necessary to banking activities. Under certain circumstances, banks can be permitted to engage in a broader range of “financial” activities through particular subsidiaries or by parent companies; in general, however, banks cannot engage in additional activities through a subsidiary that they would not be able to engage in directly. Bank holding companies and savings and loan holding companies are permitted to engage in a variety of activities that are closely related to banking. The state laws under which state banks and state savings associations are chartered specify the permissible activities of such institutions. Federal law provides an “overlay” to the states’ authority to determine the permissible activities and transactions of such institutions. In general, insured state chartered banks and savings associations may only engage in activities permissible for national banks and federal savings associations, respectively, unless the FDIC determines that an activity poses no significant risk to the deposit insurance fund, is related to the business of banking and engaged in directly, and the banks or savings associations continue to meet applicable capital requirements. | ||||||||||||||||||||||||||||||
| EC3 | The use of the word “bank” and any derivations such as “banking” in a name, including domain names, is limited to licensed and supervised institutions in all circumstances where the general public might otherwise be misled. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | No entity may operate as a “bank” and engage in banking operations in the U.S. without a charter from a federal or state banking agency. 12 U.S.C. § 378 makes it a crime for any person or entity to purport to be a bank that accepts deposits if the entity is not licensed as such by an appropriate banking agency. In addition, states generally prohibit a corporation from using the word “bank” in its name unless it has a bank charter. Federal law also makes it a crime to make unauthorized use of terms, such as “national,” “Federal,” “United States,” “reserve” or “Deposit Insurance”, that indicate a federal banking charter, membership in the Federal Reserve or federal deposit insurance. The FBAs issue public alerts about known unauthorized use of these terms but do not have the power to take enforcement actions themselves against such usage. | ||||||||||||||||||||||||||||||
| EC4 | The taking of deposits from the public is reserved for institutions that are licensed and subject to supervision as banks.27 | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | 12 U.S.C. § 378 stipulates that all persons or entities engaged in demand deposit-taking are required to be subject to some degree of regulation, supervision or oversight by federal or state authorities. Persons violating this requirement are subject to criminal penalties, including fines and imprisonment. In practice, entities engaged in retail deposit-taking (except credit unions) are generally licensed and subject to supervision as banks or savings associations. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor or licensing authority publishes or otherwise makes available a current list of licensed banks, including branches of foreign banks, operating within its jurisdiction in a way that is easily accessible to the public. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | Collectively through the FFIEC, and separately, the FBAs publish and regularly update information on banks and holding companies (domestic and foreign, and including U.S. branches and subsidiaries of foreign banks) subject to their jurisdiction. Information accessible through the FFIEC’s National Information Center includes detailed financial information and organizational charts. | ||||||||||||||||||||||||||||||
| Assessment of Principle 4 | Compliant | ||||||||||||||||||||||||||||||
| Comments | There is a well-established framework for defining the permissible activities of banks and protecting the integrity of the term “bank”. Though not a specific responsibility of the FBAs, it is important that the U.S. authorities closely monitor the disclosure practices of “bank-like” institutions, such as mutual funds offering deposit-like products, to ensure the community is well informed about the security of their savings. | ||||||||||||||||||||||||||||||
| Principle 5 | Licensing criteria. The licensing authority has the power to set criteria and reject applications for establishments that do not meet the criteria. At a minimum, the licensing process consists of an assessment of the ownership structure and governance (including the fitness and propriety of Board members and senior management)28 of the bank and its wider group, and its strategic and operating plan, internal controls, risk management and projected financial condition-(including capital base). Where the proposed owner or parent organization is a foreign bank, the prior consent of its home supervisor is obtained. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The law identifies the authority responsible for granting and withdrawing a banking license. The licensing authority could be the banking supervisor or another competent authority. If the licensing authority and the supervisor are not the same, the supervisor has the right to have its views on each application considered, and its concerns addressed. In addition, the licensing authority provides the supervisor with any information that may be material to the supervision of the licensed bank. The supervisor imposes prudential conditions or limitations on the newly licensed bank, where appropriate. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | Banks, whether organized under federal or state law, are regulated and supervised by their licensing authority, as discussed in EC 2 below. They are typically also subject to concurrent regulation and supervision by one or more additional banking agencies. Establishing a de novo bank often involves obtaining related authorizations (i.e. federal deposit insurance, membership in the Federal Reserve System) from more than one agency. In particular, foreign banks establishing a branch, agency or a subsidiary bank in the U.S. must obtain approval from the Federal Reserve as well as from the relevant licensing authority (see EC 10). The relevant agencies have well-established practices and procedures to communicate and coordinate investigations on related licensing and deposit insurance applications, and often conduct joint investigations on such applications. The assessors saw examples of interagency communications and information sharing on license applications. The licensing authorities/supervisors generally have the authority to impose prudential conditions or limitations on newly licensed banks, as appropriate. | ||||||||||||||||||||||||||||||
| EC2 | Laws or regulations give the licensing authority the power to set criteria for licensing banks. If the criteria are not fulfilled or if the information provided is inadequate, the licensing authority has the power to reject an application. If the licensing authority or-supervisor determines that the license was based on false information, the license can be revoked. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The authority to license banks and the criteria to be considered are set out in statutes and regulations. The OCC is the licensing authority for national banks (see 12 U.S.C. §21 et seq) and federal savings associations (see 12 U.S.C. § 1464(a)), while each of the states has the authority to license (“charter”) banks headquartered and operating within its jurisdiction. Typically, the OCC and the states make licensing approvals for de novo banks conditional on the receipt of deposit insurance coverage. The FDIC alone is authorized to make determinations regarding deposit insurance under the Federal Deposit Insurance (FDI) Act. The OCC may deny an application if it determines that the applicants have not met the established criteria or if the information provided is inadequate. The FDIC and the Federal Reserve may also deny authorizations within their respective competences The agencies must evaluate the evidence and, in this respect, may conduct investigations and exercise independent judgment based on all the information collected. Providing false or misleading information can be a basis for civil, administrative and criminal liability, and the penalties can include license revocation. See 12 U.S.C. §93 (a). The primary supervisor must consult with other relevant agencies on action to revoke a license. The FDIC is the resolution authority for banks. | ||||||||||||||||||||||||||||||
| EC3 | The criteria for issuing licenses are consistent with those applied in ongoing supervision. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | Although not expressly required by statute, the criteria for issuing licenses are generally consistent with those applied in ongoing supervision. For example, the OCC considers whether an applicant bank: (a) has organizers who are familiar with national banking laws and regulations; (b) has competent management that has ability and experience relevant to the type of products and services to be provided, and the scope and size of the projected risks; (c) has capitalization, access to liquidity, and risk-management systems that are sufficient to support the projected volume and type of business; (d) can reasonably be expected to achieve and maintain profitability; and (e) will operate in a safe and sound manner. See 12 CFR 5.20(f)(2). The OCC evaluates these same factors and others in the course of ongoing supervision. Supervisory material provided to the assessors confirmed a thorough license evaluation process. When evaluating applications for deposit insurance, the FDIC considers seven statutory factors enumerated in Section 6 of the FDI Act. These factors assess: the financial history and condition of the proposed depository institution and its parent organization; capital structure; proposed ownership and management; earnings prospects; activities to be conducted; convenience and needs of the community to be served; and potential risks to the Deposit Insurance Fund. The FDIC also considers the complexity and unique nature of the underlying proposal and business plan, including the conditions under which the proposed institution will operate. Supervisory material provided to the assessors confirmed a thorough process for evaluating applications for deposit insurance. | ||||||||||||||||||||||||||||||
| EC4 | The licensing authority determines that the proposed legal, managerial, operational and ownership structures of the bank and its wider group will not hinder effective supervision on both a solo and a consolidated basis.29 The licensing authority also determines, where appropriate, that these structures will not hinder effective implementation of corrective measures in the future. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | The FBAs acknowledge that developing a complete understanding of the proposed legal, managerial, operational and ownership structures of a bank, on both a stand-alone and consolidated basis, is an essential component of the licensing process. In order to fulfill its responsibility for protecting the safety and soundness of banks, each banking agency must have a clear understanding of proposed internal operating and external ownership (including group) structures and be able to assess (at authorization and during ongoing supervision) the impact that those structures may have on the integrity of a bank. The importance of structural assessments to safety-and-soundness evaluations is emphasized in the “Joint Agency Statement on Parallel-Owned Banking Organizations” (April 23, 2002). If impediments exist or arise, the agencies may take appropriate remedial measures, including denying or terminating a bank’s license, deposit insurance coverage or Federal Reserve membership. The assessors understand that, in the light of crisis experience, the FBAs have a strong preference for business models that are transparent and are viable without an over-reliance on affiliates. | ||||||||||||||||||||||||||||||
| EC5 | The licensing authority identifies and determines the suitability of the bank’s major shareholders, including the ultimate beneficial owners, and others that may exert significant influence. It also assesses the transparency of the ownership structure, the sources of initial capital and the ability of shareholders to provide additional financial support, where needed. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | As part of the licensing process, applicants are required to identify prospective shareholders and key decision-makers, including ultimate beneficial owners. The OCC may require each prospective principal shareholder (generally, those owning or controlling 10 per cent or more of a class of a bank’s shares) and key decision-makers of an applicant to provide detailed information on their current and past work experiences and financial holdings. The OCC conducts a background check and/or field investigation for information on criminal convictions, financial capacity and expertise in the financial industry. The FDIC also conducts background investigations of prospective principal shareholders, directors and executive officers during its review of deposit insurance applications. The assessors saw ample evidence of these evaluation processes. Assessments regarding principal shareholders primarily consider whether they have the ability to provide financial support to the proposed bank. A necessary part of this assessment is identifying the sources of initial capital from and the liquidity position of principal shareholders, and ensuring transparency of ownership structures. The FDIC’s “Final Statement of Policy on Qualifications for Failed Bank Acquisitions” (September 2, 2009) confirms that complex and functionally opaque ownership structures in which the beneficial ownership is difficult to ascertain with certainty, the responsible decision-makers are not clearly identified, and ownership and control are separated, would not be granted approval to own an insured depository institution. | ||||||||||||||||||||||||||||||
| EC6 | A minimum initial capital amount is stipulated for all banks. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | In general, a de novo depository institution must have a minimum amount of initial capital, which is available and ready to be deployed. For de novo banks, the OCC does not stipulate a minimum dollar amount of capital but it requires the bank to have sufficient initial capital (net of pre-opening expenses) to support the projected volume and type of business to be conducted. However, a de facto minimum of $2 million applies since that is the FDIC’s minimum capital requirement for inclusion in the deposit insurance scheme. Generally, the OCC expects a de novo bank to remain above the “well-capitalized” level for purposes of Prompt Corrective Action throughout the first three years of its operation, and requires it to meet a minimum leverage ratio, measured in terms of tier 1 capital to on-balance sheet assets, of 8 per cent throughout that period, based on a realistic business plan. In most cases, a newly insured bank requires initial capital of significantly more than $2 million to reach a size and scale that enables it to operate and compete in its identified geographic market(s). For de novo federal savings associations, there is a statutory minimum initial required capital of $2 million (see 12 CFR 1431.3(b)). In addition to its minimum capital requirement for all depository institutions, the FDIC requires institutions to maintain an adequate Allowance for Loan and Lease Losses (ALLL) (see CP 18). For state nonmember institutions, the FDIC requires that the minimum leverage ratio of 8 per cent be met throughout the first seven years of operation. Furthermore, depending on a de novo institution’s anticipated risk profile, and regardless of charter type, the FDIC and/or other appropriate agency may impose a minimum leverage ratio requirement in excess of 8 per cent. The assessors questioned the FBAs about the de facto $2 million minimum capital requirement for de novo banks and savings associations, which is much lower than the corresponding requirement for small banks in many other jurisdictions. The assessors were advised that the limit has become largely irrelevant and is in need of review; the OCC provided information that initial capital in a range of $10-20 million is more typical for smaller de novo banks. | ||||||||||||||||||||||||||||||
| EC7 | The licensing authority, at authorization, evaluates the bank’s proposed Board members and senior management as to expertise and integrity (fit and proper test), and any potential for conflicts of interest. The fit and proper criteria include: (i) skills and experience in relevant financial operations commensurate with the intended activities of the bank; and (ii) no record of criminal activities or adverse regulatory judgments that make a person unfit to uphold important positions in a bank.30 The licensing authority determines whether the bank’s Board has collective sound knowledge of the material activities the bank intends to pursue, and the associated risks. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | The FBAs, as applicable, evaluate proposed directors and senior management with respect to expertise, integrity and any potential for conflicts of interest. The OCC, for example, generally considers each individual’s: (a) financial institution and other business experience; (b) duties and responsibilities with respect to the proposed bank and, if applicable, holding companies and affiliates; (c) personal and professional financial responsibility, e.g., indicated by earlier professional experiences; (d) reputation for honesty and integrity, e.g., verified by (lack of) criminal convictions; and (e) familiarity with the economy, financial needs and general character of the community in which the bank will operate. Applicants must demonstrate that each prospective director has sufficient competence, experience and ability to direct the policies of the bank in a safe and sound manner, taking into account the circumstances and plans of the organization. Officers must show their ability to perform their proposed duties successfully, e.g., in interviews with licensing staff. The assessors saw ample evidence of this evaluation process. | ||||||||||||||||||||||||||||||
| EC8 | The licensing authority reviews the proposed strategic and operating plans of the bank. This includes determining that an appropriate system of corporate governance, risk management and internal controls, including those related to the detection and prevention of criminal activities, as well as the oversight of proposed outsourced functions, will be in place. The operational structure is required to reflect the scope and degree of sophistication of the proposed activities of the bank.31 | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | Applicants must show that the proposed business plan is viable and that the proposed management team has the ability to implement the plan successfully. The plan generally must: (a) establish the bank’s ability to achieve a reasonable market share; (b) show that the bank has reasonable earnings prospects and the ability to attract and maintain adequate capital; (c) demonstrate that management is knowledgeable of and has plans for serving the community’s needs; and (d) be supported by adequate policies, procedures and management expertise so that the bank can be operated in a safe and sound manner. Typically, applicants must provide a documented analysis of the market environment and realistic financial projections based on reasonable assumptions related to interest rates, growth, expenses and potential losses. To evaluate corporate governance structures, the licensing authorities seek to understand the board’s involvement in setting and enforcing clear lines of responsibility and accountability by reviewing organizational charts, business plans and proposed policies and procedures. The agencies specifically determine how a bank’s board will approve, oversee and communicate the bank’s strategic objectives and otherwise exercise its fiduciary responsibilities. Board members are expected to exercise the duties of loyalty and care, which require them to act as prudent and diligent business persons in conducting the affairs of the bank. The agencies also consider the relationship between the proposed bank (its affiliates and holding company, if applicable) and any related parties. This includes evaluating potential conflicts of interest, terms and conditions of any transactions, contracts or business relationships, and the terms of compensation plans. With respect to risk-management systems and policies, applicants must develop appropriate written investment, loan, funds management and liquidity policies. They must also establish an acceptable internal control structure and audit program, including policies and procedures necessary to prevent the bank from being used for criminal purposes (including money laundering and terrorist financing) and for exercising appropriate oversight over outsourced functions. The operational structure and risk-management framework are expected to be consistent with the complexity, risk and scope of proposed operations. Plans that involve high-risk lending, a special purpose market or significant funding from sources other than core deposits, or that otherwise diverge from conventional bank-related financial services, require specific documentation as to the suitability of the proposed activities for a bank. Similarly, additional documentation is required where markets to be entered are intensely competitive or economic conditions are marginal. As noted above, supervisory material provided to the assessors confirmed that the evaluation processes of the agencies were detailed, probing and comprehensive, and incorporated a range of financial information as well as thoughtful supervisory judgment. | ||||||||||||||||||||||||||||||
| EC9 | The licensing authority reviews pro forma financial statements and projections of the proposed bank. This includes an assessment of the adequacy of the financial strength to support the proposed strategic plan as well as financial information on the principal shareholders of the bank. | ||||||||||||||||||||||||||||||
| Description and findings re EC9 | The OCC evaluates the inherent risks of the applicant’s business model and reasonableness of the financial projections as a critical element of the licensing process. Also critical is an assessment of the adequacy of financial strength, including capital levels, to support the proposed strategic plan. Estimates must be fully documented, supported and based on established growth patterns in the applicant’s specific market area. The OCC also evaluates concentrations of funding sources for safety and soundness concerns and determine whether contingency funding plans are adequate for the bank’s complexity and risk profile. With respect to asset growth projections, the OCC generally reviews the nature and risk profile of the asset mix, identify high-risk asset concentrations and consider whether risk-management systems and policies sufficiently measure, identify, and control risks. Depending on the risk profile of the assets contemplated, the OCC may require stress tests to show that the bank can maintain required minimum capital ratios and adequate profitability under adverse market conditions. Applicants must demonstrate that the proposed bank can achieve stabilized operations and generate an adequate profit within a reasonable period of time (typically, three years). | ||||||||||||||||||||||||||||||
| EC10 | In the case of foreign banks establishing a branch or subsidiary, before issuing a license, the host supervisor establishes that no objection (or a statement of no objection) from the home supervisor has been received. For cross-border banking operations in its country, the host supervisor determines whether the home supervisor practices global consolidated supervision. | ||||||||||||||||||||||||||||||
| Description and findings re EC10 | Foreign banks establishing a branch, agency or a subsidiary bank in the U.S. must obtain approval both from the licensing authority (the OCC or a state licensing authority) and from the Federal Reserve. The licensing authority may, and the Federal Reserve generally must, determine that the foreign bank, and any parent foreign bank, is subject to comprehensive and consolidated supervision by its home country supervisor. The licensing authority and the Federal Reserve also assess the extent, if at all, to which home country supervisors oversee or monitor any operations between a foreign bank and any foreign nonbank parent. The adequacy of home country supervision is evaluated at authorization and as part of ongoing supervision. The licensing authority and the Federal Reserve routinely contact the home country supervisor during the application process and, in making a decision on an application, take into account whether the home country supervisor has approved (or expressed no objection) to the proposal. See 12 CFR 28.12(b)(6) (OCC). The assessors saw evidence of this process. A foreign entity that is not a BHC must obtain Federal Reserve approval before establishing or acquiring a subsidiary savings association in the U.S. If the foreign entity is a foreign bank, the Federal Reserve must determine that the foreign bank and any foreign bank parent are subject to comprehensive and consolidated supervision by the home country supervisor. | ||||||||||||||||||||||||||||||
| EC11 | The licensing authority or supervisor has policies and processes to monitor the progress of new entrants in meeting their business and strategic goals, and to determine that supervisory requirements outlined in the license approval are being met. | ||||||||||||||||||||||||||||||
| Description and findings re EC11 | The FBAs monitor the progress of de novo institutions in meeting their business plans and underlying strategic objectives. These reviews also include consideration of whether the banks have complied with any other conditions imposed as part of licensing. After the de novo period, changes in a bank’s activities, if permissible under state and federal law, are subject to review during periodic safety-and-soundness examinations. In addition, de novo banks are required to give the FDIC prior notice of any change to the bank’s business plan during the first three years of operation. As a condition of deposit insurance, the FDIC requires de novo state nonmember banks to submit pro forma financial statements and a business plan for operating years four through seven or longer, if deemed appropriate, before the end of the bank’s third year of operation. The FDIC monitors compliance with such plans during the annual examination process and requires prior non-objection for any material deviations from or material changes to the plan. Based on experience in the financial crisis, when a number of de novo banks failed in their fourth to eighth years, the FDIC has stepped up the intensity of its supervision of de novo banks and, as noted in EC 6, has extended the period of application of the minimum leverage ratio of 8 percent. | ||||||||||||||||||||||||||||||
| Assessment of Principle 5 | Compliant | ||||||||||||||||||||||||||||||
| Comments | Under the U.S. dual banking structure, banks may in principle choose to operate under a federal or state charter that best accommodates their business or strategic needs, although all banks will have a primary Federal supervisor. State-chartered banks may choose between supervision by the FDIC or by the Federal Reserve as a member bank, in addition to the supervision of their state supervisory authority. The evaluation processes for banks seeking a national charter and access to the deposit insurance fund appear thorough and testing. The assessors did not review the parallel evaluation processes of state supervisory authorities, which were out of scope for this assessment. Concerns have been raised, including in the U.S. Treasury White Paper on Financial Regulatory Reform (2009), that the choice of supervisor available to banks can give rise to “regime shopping” that can undermine the integrity of U.S. regulatory arrangements. The financial crisis highlighted egregious examples. Since the crisis, the authorities have taken steps to reduce banks’ incentives for inappropriate charter conversions. In 2009, the FFIEC “Statement on Regulatory Conversions” addressed proposed conversions by institutions with less than satisfactory ratings (a CAMELS rating of 3, 4 or 5) or that have a material corrective action program in place or being contemplated, as well as those subject to serious or material enforcement actions. Such conversion applications require consultation with the FDIC and Federal Reserve (in the event of a holding company); in practice, the FBAs will not accept conversions involving a 4 or 5 rated institution. Key aspects of the FFIEC Statement were given statutory force by the DFA, which also resulted in the dissolution of the OTS. Section 612 of that Act generally prohibits charter conversions, in either direction, while the institution concerned is subject to any formal enforcement actions that involve a significant supervisory matter. Exceptions to this conversion prohibition are possible in certain defined circumstances, which are expected to be rare. The FFIEC Statement remains in place, since it covers a broader range of circumstances than section 612. A large number of (well-rated) banks and savings associations currently fall outside the scope of these conversion restrictions and there has been a steady stream of charter conversions in both directions, although the numbers are not large in absolute terms. The FBAs have explained to the assessors that state banks generally convert to federal charters if they have national ambitions, while national banks and savings associations converting to state charters generally claim that state supervisory authorities are more attuned to local economic conditions and the needs of smaller community banking organizations. The FBAs explained to the assessors that charter conversions that fall outside the scope of the FFIEC Statement are generally subject to handover “protocols” that would discourage inappropriate regime shopping. The assessors see merit in incorporating these protocols in the FFIEC Statement. The choices made by banking organizations between the three FBAs can, over time, have important implications for the staffing and sustainability of regional offices. The FBAs need to guard against creating perceptions of differences in supervisory style or intensity in these offices that could sway the choices made by banks on charter conversions. | ||||||||||||||||||||||||||||||
| Principle 6 | Transfer of significant ownership. The supervisor32 has the power to review, reject and impose prudential conditions on any proposals to transfer significant ownership or controlling interests held directly or indirectly in existing banks to other parties. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | Laws or regulations contain clear definitions of “significant ownership” and “controlling interest”. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | Federal statutes and their implementing regulations define controlling interest but not significant ownership. They address proposed changes in ownership, control, or structure of banks. In general, prior authorization by the appropriate FBA is required for any person to acquire “control” of a bank. “Control” for this purpose is defined as “the power, directly or indirectly, to direct the management or policies of an insured depository institution or to vote 25 per cent or more of any class of voting securities of an insured depository institution.” See The Change in Bank Control Act (CIBC Act) 12 U.S.C. §1817(j)(8)(B). Under limited circumstances a presumption of control arises when a person would own, control, or hold the power to vote 10 percent or more of any class of voting securities. In certain cases, a five percent voting share may be assessed as “a rebuttable threshold” for deeming a person to having control. A “person” for purposes of the CIBC Act includes an individual, a group of individuals acting in concert, or certain entities (e.g. corporations, partnerships, and trusts) that own shares of banks but that do not qualify as bank holding companies. Further, prior authorization of the Federal Reserve is generally required under the Bank Holding Company Act (BHC Act), 12 U.S.C. § 1842(a), for a company that is subject to the BHC Act to directly or indirectly acquire control of a bank or BHC. “Control” for this purpose generally includes direct or indirect ownership, control, or the power to vote 25 percent or more of any class of voting securities of a bank or BHC. “Control” is further defined to include (a) control over the election of a majority of directors or persons exercising similar functions; or (b) the power to exercise directly or indirectly a controlling influence over the management or policies of the bank or BHC (see 12 CFR 225.2(e)(1)). For existing BHCs, Federal Reserve authorization is required before the BHC can acquire, directly or indirectly, 5 percent or more of any class of voting shares of another bank (see 12 U.S.C. § 1842(a)(3)). The Federal Reserve generally is required to consult with the state banking agency and/or the OCC (as appropriate) in processing the request for authorization (see 12 U.S.C. § 1842(b)(1)). By statute, the Federal Reserve cannot approve a BHC application under certain enumerated circumstances (see 12 U.S.C. § 1842(c) and 12 CFR 225.13). Prior authorization of the Federal Reserve is required under the Home Owners’ Loan Act (HOLA), 12 U.S.C. § 1467a (e), for a company directly or indirectly to acquire control of a savings association or savings and loan holding company (SLHC). The definition of “control” under the HOLA is similar to the BHC Act definition of control. Approval criteria for SLHC applications are similar to the approval criteria for BHC Act applications, and by statute the Federal Reserve cannot approve a SLHC application under certain circumstances (see 12 U.S.C. § 1467a (e) (2)). See EC3 for a more detailed account of the conditions for approval/denial. In addition, subject to statutorily enumerated exceptions, Federal Reserve approval is required before an SLHC can acquire, directly or indirectly, more than 5 percent of a class of voting securities of another savings association or SLHC (see 12 U.S.C. § 1467a (e) (1) (A) (iii)). As noted above, there is a clear definition of the concept of “control”. However, there is no definition or use of the concept “significant ownership”. That said, there is a threshold for the bank to annually report to the supervisors all shareholders having five percent or more of the total votes. Additionally, Federal Reserve approval is required for SHLC acquisitions exceeding five percent of a class of voting securities of another savings association of SHLC. This may be interpreted as a measure of “significant ownership”. | ||||||||||||||||||||||||||||||
| EC2 | There are requirements to obtain supervisory approval or provide immediate notification of proposed changes that would result in a change in ownership, including beneficial ownership, or the exercise of voting rights over a particular threshold or change in controlling interest. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The U.S. FBAs have statutory authority under the CIBC Act, 12 U.S.C. § 1817(j), to review, reject, and impose conditions on proposals involving significant changes in ownership or control of banks. As noted above, prior authorization by the appropriate federal banking agency is generally required for any person to acquire “control” of a bank or BHC. The implementing regulations for the CIBC Act, the BHC Act, and the HOLA set forth procedures that must be followed to effect a change in ownership (including beneficial ownership), the exercise of voting rights over a particular threshold, or control of a bank or holding company. Submission of a prior notice under the CIBC Act is normally required, but the CIBC Act exempts various categories of transactions from this requirement (including some grandfathering of control existing before 1979) or requires a 90-days after-the-fact notice for other categories of transactions (this applies for instance to “unexpected transactions” such as gifts, changes in other persons’ shareholdings etcetera). Similarly, the Federal Reserve’s regulations provide for the filing of either an application or prior notice with respect to a company’s acquisition of a bank, identify a limited set of transactions not requiring agency approval, and allow for a waiver of filing requirements under certain circumstances (see 12 CFR part 225.12). OCC regulations pertaining to application requirements and procedures are found at 12 CFR 5.33 (national banks) and 12 CFR 163.22 (federal savings associations). | ||||||||||||||||||||||||||||||
| EC3 | The supervisor has the power to reject any proposal for a change in significant ownership, including beneficial ownership, or controlling interest, or prevent the exercise of voting rights in respect of such investments to ensure that any change in significant ownership meets criteria comparable to those used for licensing banks. If the supervisor determines that the change in significant ownership was based on false information, the supervisor has the power to reject, modify or reverse the change in significant ownership. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | The FBAs have the power to reject a proposal for a change in ownership. In general, the factors considered with respect to proposed changes in significant ownership, including beneficial ownership, or control of banks are comparable to those used in approving new banks. For example, the agencies evaluate change in control notices based on the statutory factors enumerated in section 7(j) of the Federal Deposit Insurance Act (FDIA). These factors include whether the proposal would result in a monopoly; whether the effect of the proposal in any section of the country may be to substantially lessen competition, or in any other manner be in restraint of trade; the financial condition of the acquiring party and its potential impact on the bank or depositors; the competence, experience or integrity of any acquiring person or proposed management; whether any acquiring party neglects, fails, or refuses to furnish information required by the appropriate federal banking agency; and the effect on the Deposit Insurance Fund. Criteria vary under the other applicable statutes, such as the Bank Merger Act, CIBC, BHC Act, and Home Owners’ Loan Act, but the relevant federal bank agency generally considers (a) the financial condition and integrity of the ownership group; (b) the competence, experience, and integrity of management; (c) the future prospects of the resulting entity; (d) business plans of the resulting entity; (e) the impact of the proposal on the safety and soundness of the resulting entity; (f) the convenience and needs of the community(ies) to be served; and (g) the impact of the proposal on financial stability In addition, the FBAs generally also consider the competitive effects of the proposal, along with compliance with applicable consumer protection and anti-money laundering statutes, and activities covered by the CRA. A request for authorization under any of these applicable statutes may be denied on any of the grounds considered, or an agency may impose conditions on authorization limiting an acquirer’s exercise of voting rights. If a change in significant ownership was based on false information, the FBAs have various powers to impose penalties and affirmative requirements, potentially including divestiture of ownership. See e.g., 12 U.S.C. § 1818(b)(6) (authority to require appropriate affirmative action due to a violation of law or regulation); see also 12 U.S.C. § 1817(j)(15)(B)(ii) (authority to seek relief necessary to prevent violation of the CIBC Act, including divestiture). | ||||||||||||||||||||||||||||||
| EC4 | The supervisor obtains from banks, through periodic reporting or on-site examinations, the names and holdings of all significant shareholders or those that exert controlling influence, including the identities of beneficial owners of shares being held by nominees, custodians and through vehicles that might be used to disguise ownership. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | The agencies obtain from banks and holding companies through annual reporting and/or on-site examinations, the names of all significant shareholders, including those that may exert a controlling influence, and the identities of beneficial owners. The Federal Reserve, for example, requires the annual submission of the identities of those shareholders who own or control 5 percent or more of a class of voting shares of a bank or BHC. (The other FBAs apply corresponding rules to savings banks and SHLCs). On-site or off-site examinations will periodically include review of the ownership of significant shareholders. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor has the power to take appropriate action to modify, reverse or otherwise address a change of control that has taken place without the necessary notification to or approval from the supervisor. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The agencies require after-the-fact requests for authorization for changes in control made without necessary notice to, or approval of, the agencies. In evaluating such requests, the agencies consider whether the failure to request authorization in the first instance was a knowing violation of the law. (Such a violation could result in the imposition of civil monetary penalties against participants and sanctions against any “institution-affiliated party” up to, and including, debarment.) The agencies also consider whether appropriate policies and procedures have been put in place to ensure that further violations do not occur. The agencies have the authority to deny or condition an after-the-fact request for authorization. For instance, they may bar the shareholder from voting or from appointing directors in the bank. Ultimately, they may require that the stockholding be divested. | ||||||||||||||||||||||||||||||
| EC6 | Laws or regulations or the supervisor require banks to notify the supervisor as soon as they become aware of any material information which may negatively affect the suitability of a major shareholder or a party that has a controlling interest. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | Although there is no explicit regulatory requirement, the agencies expect (on general grounds such as the safety and soundness prerequisites) controlling shareholders, or the bank with which they are affiliated, to provide the agencies with timely notice of any material information that would impact the shareholders’ continued suitability. | ||||||||||||||||||||||||||||||
| Assessment of principle 6 | Compliant | ||||||||||||||||||||||||||||||
| Comments | The FBAs have comprehensive definitions for “controlling interest”, taking into account both quantitative and qualitative factors of control. There are clear rules for prior approval or notifications of changes in ownership. Supervisors may deny improper changes in ownership and may in certain circumstances require the reversal of completed transactions or require other remedial actions. The assessors saw evidence of supervisors taking such actions. The concept of “significant ownership” is not defined per se. However, in practice the international practice of a five percent threshold for the reporting of significant shareholders is applied. The assessors saw evidence, including supervisors’ responses to applications for ownership changes, that the above rules and policies are applied in practice. There is no explicit regulatory requirement for a bank to immediately report if they find that a major shareholder is no longer suitable. Nor did the assessors see any evidence of such reporting in the written documentation. The assessors recommend that such a supervisory requirement is introduced, with the aim to ensure that supervisors are promptly informed if a major shareholder is no longer suitable, since this might have a negative impact on the safety and soundness of the bank. Assessors chose to address this shortcoming under CP 9. | ||||||||||||||||||||||||||||||
| Principle 7 | Major acquisitions. The supervisor has the power to approve or reject (or recommend to the responsible authority the approval or rejection of), and impose prudential conditions on, major acquisitions or investments by a bank, against prescribed criteria, including the establishment of cross-border operations, and to determine that corporate affiliations or structures do not expose the bank to undue risks or hinder effective supervision. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | Laws or regulations clearly define:
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| Description and findings re EC1 | Federal and state laws limit and define the types of acquisitions or investments banks may make. For banks, the permissible activities and investments are set forth in the statutes discussed under Principle 4 and the agencies’ implementing regulations. The agencies have established regulatory criteria for prior approval of major acquisitions or investments of banks. Although not every investment or acquisition must be approved in advance by the regulatory authorities, procedural criteria have been designed to allow the banking supervisors to review acquisitions or investments that could have a significant effect on a bank’s condition (e.g., mergers and acquisitions of subsidiaries). See summary table33 below. Under the Federal Reserve’s Regulation K (12 CFR part 211), foreign investments by member banks may be made under general consent, prior notice, or application procedures. In general, prior approval is necessary for new or large investments, while post-notice is sufficient for smaller investments. However, “well capitalized and well managed” FHCs are allowed to execute a wider range of acquisitions and investments on a general consent basis. (12 CFR 211.9) Similarly, the FDIC’s International Banking regulations (12 CFR part 347) authorize state nonmember banks to make foreign investments under general consent or with prior approval after the filing of an application. The regulations set forth criteria for determining the appropriate procedure in 12 CFR 347.117, 347.118, and 347.119. Under 12 CFR 28.3, national banks acquiring an interest in an Edge or agreement corporation, foreign bank, or other foreign organization must provide notice to the OCC. The OCC’s regulations for federal savings associations on Lending and Investment, 12 CFR part 160 (in particular 160.36), and Subordinate Organizations, 12 CFR part 159 apply to both domestic and foreign activities and investments. CFR 12 CFR 24.4 and 24.5 requires that OCC approves a written request for investments exceeding in aggregate 5 percent of the acquiring institution’s capital and surplus. The BHC Act and section 10 of the HOL Act set forth the permissible activities of BHCs and SLHCs, respectively (see 12 U.S.C. §§ 1843(c) and 1843(k) and 12 U.S.C. § 1467a(c)). The Federal Reserve’s SLHC regulation applies to both domestic and foreign activities and investments. For both BHCs and SLHCs, there are clear regulatory directions as to when an application for prior supervisory approval is necessary or when post-notice is sufficient for an acquisition. Nationally chartered banks may only acquire minority stakes (i.e. a minority in the investment target) in non-bank activities. Furthermore, these must be related to banking, such as investments in service corporations.
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| EC2 | Laws or regulations provide criteria by which to judge individual proposals | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | Implementing regulations specify the criteria by which individual proposals are to be evaluated. In some instances, these criteria also are specified by statute, which may include the Bank Merger Act, CIBC Act, BHC Act, and HOL Act. Factors considered in reviewing such proposals generally include competitive concerns, financial and managerial resources, future prospects of the resultant bank, the convenience and needs of the community to be served, CRA compliance, anti-money laundering compliance, the impact of the proposal on the risk to the stability of the U.S. banking or financial system, and compliance with consumer protection statutes (see e.g., 12 U.S.C. 1828(c)(5); 12 CFR 5.33(e)). Where acquisitions by a holding company of a bank require agency approval, applicable statutes and regulations provide review criteria. The FBAs expect that investments and foreign activities, whether conducted directly or indirectly, will be confined to activities of a banking or financial nature and those necessary to carry on such activities. At all times, investors must act in accordance with high standards of banking or financial prudence, with due regard for diversification of risks, suitable liquidity, and adequacy of capital. To be eligible to make foreign investments, the investor and its parent(s) must be in compliance with applicable minimum capital adequacy standards. In order to make investments under general consent authority, the investor and any insured parent bank must have received at least a composite rating of “satisfactory” at the most recent examination. | ||||||||||||||||||||||||||||||
| EC3 | Consistent with the licensing requirements, among the objective criteria that the supervisor uses is that any new acquisitions and investments do not expose the bank to undue risks or hinder effective supervision. The supervisor also determines, where appropriate, that these new acquisitions and investments will not hinder effective implementation of corrective measures in the future.34 The supervisor can prohibit banks from making major acquisitions/investments (including the establishment of cross-border banking operations) in countries with laws or regulations prohibiting information flows deemed necessary for adequate consolidated supervision. The supervisor takes into consideration the effectiveness of supervision in the host country and its own ability to exercise supervision on a consolidated basis. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | In all instances in which a notice or application is required for a proposed acquisition or investment, the agencies assess whether the acquisition or investment would expose a bank to undue risk or would hinder effective supervision. Such assessment would include analysis of the host country supervision. When evaluating proposals by organizations to establish foreign operations (including an office or subsidiary), the FBAs require the applicants to show, and the FBAs must determine, that the laws or regulations of the foreign jurisdiction would not prohibit the FBAs from obtaining information needed to determine and enforce compliance with U.S. banking regulations. The FBAs have the authority to deny a request for authorization if they determine that they would not be able to obtain adequate information for the exercise of consolidated supervision. See Principles 12 and 13 for further information and 12 CFR part 28, subpart A and 12 CFR 211.13(a)(3). | ||||||||||||||||||||||||||||||
| EC4 | The supervisor determines that the bank has, from the outset, adequate financial, managerial and organizational resources to handle the acquisition/investment. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | For those proposals requiring authorization, the FBAs consider whether the bank or holding company has the financial, managerial and organizational resources to support the acquisition or investment. See, e.g., 12 U.S.C. 1828(c)(5) and 1842(c); 12 CFR 5.33(e); 12 CFR 225.13. This evaluation includes, but is not limited to, an assessment of the amount and source of initial funding, the resulting capital condition of the acquirer, the impact of the acquisition on the examination ratings of the acquirer, and the policies and procedures to be implemented at the target (including compliance with BSA/AML requirements). A three-year projection of the financial impact of the acquisition on the acquiring institution is required. For examples, see OCC’s Licensing Manual: Business Combinations; Investment in Subsidiaries and Equities, Subordinate Organizations, and Combination with a National or State Bank booklets. For those proposals not requiring authorization, the supervisors will typically be informed of investments/acquisitions through its off-site monitoring and on-site examinations. Supervisors will then, as warranted, assess the impact of the investments/acquisitions on the bank and holding company. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor is aware of the risks that non-banking activities can pose to a banking group and has the means to take action to mitigate those risks. The supervisor considers the ability of the bank to manage these risks prior to permitting investment in non-banking activities. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | Significant nonbanking activities must be approved in advance by the applicable FBAs. See, e.g., OCC’s Licensing Manual: Investment in Subsidiaries and Equities and Subordinate Organizations booklets. The Federal Reserve is responsible for approving the establishment of BHCs, SLHCs, and their nonbank subsidiaries, and examines the activities of BHCs and SLHCs on a consolidated basis. Any investment in nonbanking activities by a BHC or SHLC requires prior approval by the Federal Reserve. Well capitalized and well managed FHCs may, however, make such investments and notify after-the-fact. There are statutory provisions designed to protect a bank from suffering losses in transactions with affiliates. For instance, lending from the bank to another affiliate of the group may not exceed 10 percent of the bank’s capital and the aggregate lending to all other affiliates may not exceed 20 percent. During examinations, supervisors regularly review transactions between the bank and its affiliates to determine compliance with such provisions. If there are transactions that pose safety and soundness concerns for the bank, federal supervisors can take actions to ensure that corrective action is taken and that the bank is protected. The FBAs consider the ability of the organization to manage the risks associated with the activities as part of the approval process. See, e.g., 12 U.S.C. § 1843; 12 CFR 225.26. | ||||||||||||||||||||||||||||||
| Additional criteria | |||||||||||||||||||||||||||||||
| AC1 | The supervisor reviews major acquisitions or investments by other entities in the banking group to determine that these do not expose the bank to any undue risks or hinder effective supervision. The supervisor also determines, where appropriate, that these new acquisitions and investments will not hinder effective implementation of corrective measures in the future.35 Where necessary, the supervisor is able to effectively address the risks to the bank arising from such acquisitions or investments. | ||||||||||||||||||||||||||||||
| Description and findings re AC1 | The FBAs review acquisitions within the banking group, as described above. See Principle 7, EC 1. Direct or indirect investments by banks in entities engaged in nonbanking activities would be subject to approval by the appropriate federal supervisor. See 12 CFR 5.39 (financial subsidiaries of national banks), 12 CFR part 208 subpart G (financial subsidiaries of state member banks), and 12 CFR part 362 (financial subsidiaries of state nonmember banks). Other direct or indirect investments by a BHC or SLHC would be subject to review by the Federal Reserve. See 12 CFR part 211 subpart A; 12 CFR part 225 subparts C and I (nonbank investments by BHCs); 12 CFR part 238 subparts F and G (nonbank investments by SLHCs). Major acquisitions would be subject to prior approval requirements, while other investments may qualify for limited or post-notice. To the extent that an acquisition was approved, but raised significant potential issues, the approving agency could impose conditions on its approval to mitigate any concerns. Assessors have reviewed files that included acquisitions by the broader group. | ||||||||||||||||||||||||||||||
| Assessment of Principle 7 | Compliant | ||||||||||||||||||||||||||||||
| Comments | Laws and regulations exist to define which acquisitions and investments that require prior approval by the authorities, a notification after-the-fact or may be made under general consent. There are also clear criteria by which the authorities assess the applications. Legislation and regulations also put clear restrictions on the scope of permissible investments and acquisitions, such as in non-bank related activities. Assessors saw evidence, including supervisors’ reports on banks’ applications for investments/acquisitions, that the above rules and policies are applied in practice. | ||||||||||||||||||||||||||||||
| Principle 8 | Supervisory approach. An effective system of banking supervision requires the supervisor to develop and maintain a forward-looking assessment of the risk profile of individual banks and banking groups, proportionate to their systemic importance; identify, assess and address risks emanating from banks and the banking system as a whole; have a framework in place for early intervention; and have plans in place, in partnership with other relevant authorities, to take action to resolve banks in an orderly manner if they become non-viable. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The supervisor uses a methodology for determining and assessing on an on-going basis the nature, impact and scope of the risks:
The methodology addresses, among other things, the business focus, group structure, risk profile, internal control environment and the resolvability of banks, and permits relevant comparisons between banks. The frequency and intensity of supervision of banks and banking groups reflect the outcome of this analysis. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | All Banks The U.S. firmly adopts a risk-based approach to supervision. This is both in terms of its focus on risk within banks, but also adjusting that approach in proportion to the risk banks pose to the system. The supervisory process is highly structured with a high proportion of mandated reviews, a uniform rating process and an extensive planning process that agrees the supervisory strategy going forward. U.S. regulators have a statutory responsibility to ensure and evaluate safety and soundness. The multiple regulators also look at different aspects of banking groups and their structure – for example Federal Reserve looking at Bank Holding Companies and OCC looking at banks. During each supervisory cycle, the supervisors formally assess the risk profile of each bank and holding company in order to determine the supervisory strategy to be followed by examination staff and prioritization of agency resources. Risk assessments are updated on a regular basis through off-site monitoring programs and on-site examinations. These risk assessments use a common framework that promote and facilitate comparisons across banking organizations. Supervisors maintain continuous off-site monitoring programs to determine and assess on an on-going basis the nature, importance, and scope of risks to which banks and holding companies are exposed. These programs draw on financial data, prior supervisory assessments, regulatory reports specifying changes in activities, and other internal and publicly available sources of information to identify banks and holding companies requiring a heightened supervisory focus. Banks and holding companies showing signs of significant deterioration or making significant changes in their business focus may be subject to immediate on-site or targeted examination under policies and procedures maintained by the banking agencies. The adequacy of internal controls is evaluated during on-site or targeted examinations and is also taken into consideration when determining the need for additional supervisory work. In addition, the banking agencies collect information on the scope of each bank’s and holding company’s external audit to help to gauge the quality of internal controls, and require audited financial statements and additional reporting on the quality of internal controls for banks and holding companies of significant size (banks exceeding a minimum asset threshold of $500 million). The Federal Reserve uses a ratings system known as RFI to assign supervisory ratings for Bank Holding Companies on a consolidated basis. The R rating component provides a framework for assessing and assigning risk ratings across Bank Holding Companies. In addition, all the agencies’ Uniform Bank Performance Report allows supervisors and supervisory staff to compare financial trends across groups of peer banks to identify outlier or high-risk banks. The agencies also use a common Uniform Financial Institution Rating System (UFIRS), known as CAMELS, that provides a consistent methodology and terminology for assessing and assigning risk ratings across banks. Similar uniform rating systems are used to assess holding companies, information technology, trust, and consumer compliance systems. The ROCA rating system is used for FBOs. Each agency has additional tools and systems, such as horizontal examinations of a group of banks that it uses to supplement these interagency tools. The Prompt Corrective Action (PCA) statute provides the agencies with authority to promptly resolve capital deficiencies at insured depository institutions, and thereby reduce bank failures. The PCA imposes mandatory and discretionary restrictions on an insured depository institution’s capital position to ensure a minimum level of capital is maintained or, in the absence of maintaining the minimum level of capital, requires the chartering government agency to close or seize the insured depository. Generally the supervisors use a $10bn threshold as a key dividing point in the intensity of supervision—typically it is the point where supervisors carry out continuous assessment of firms usually supported by resident examination teams, rather than a periodic examination, which is based on a twelve-month cycle (or eighteen months in certain circumstances). Banking Institutions with at least $10bn of Assets Above the $10bn threshold, the supervisors typically adopt a process of continuous assessment. This will normally involve resident examination teams. Banking Institutions with at least $50bn of Assets The most intensive form of supervision is reserved for those institutions above $50bn. These firms will typically have the greatest level of resources devoted to their supervision. The U.S. supervisory approach was further broadened with a new supervisory program aimed at large, complex financial institutions. The Federal Reserve issued supervisory guidance in 2012 that builds upon the lessons learned from the financial crisis by strengthening both micro prudential supervision and regulation and macro prudential supervisory considerations to reduce potential threats to the financial system. This guidance supports a tailored approach that accounts for the unique risk characteristics of each firm. The guidance embodied in SR 12-17 covers core areas of supervisory focus. The guidance specifies the Federal Reserve’s expectations around two main areas: 1) enhancing the resiliency of a firm that includes guidance on capital and liquidity planning and positions; corporate governance; recovery planning; and management of core business lines, and 2) reducing the impact of a firm’s failure that includes guidance on management of critical operations; support for banking offices; resolution planning; and additional macro prudential supervisory approaches to address risk to financial stability. The guidance covers firms supervised by the Federal Reserve with consolidated assets of $50 billion or more (for Large FBOs with combined assets of U.S. operations of $50 billion or more). The supervisory guidance embodied in SR 12-17 does not apply to regional or community banking organizations—regional organizations with total consolidated assets less than $50 billion. Additionally, under the DFA, systemically-significant bank holding companies or nonbank financial firms are required to submit periodic reports to the agencies providing the plan of the company for rapid and orderly resolution in the event of material financial distress or failure. The DFA also provides for the orderly liquidation of covered financial companies. Thus, the U.S. supervisory approach also includes a framework for early intervention and resolution of banking organizations if they become non-viable. Supervisors develop and maintain an understanding of the operations of individual banks and holding companies, to evaluate and ensure their safety and soundness and compliance with applicable laws and regulations, and to monitor the stability of the banking and financial system. Under the DFA, the agencies, in their capacity as FSOC members, are required to report annually and testify before the U.S. Congress on significant financial market and regulatory developments, potential emerging threats to financial stability, determinations of companies that pose a threat to financial stability in the U.S., and recommendations that the primary financial regulatory agencies apply new or heightened standards and safeguards for a financial activity. | ||||||||||||||||||||||||||||||
| EC2 | The supervisor has processes to understand the risk profile of banks and banking groups and employs a well defined methodology to establish a forward-looking view of the profile. The nature of the supervisory work on each bank is based on the results of this analysis. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | All Banks U.S. FBAs carry out on-site reviews and off-site analyses to develop a thorough understanding of the risk profile of banks and holding companies. Under U.S. law, the agencies conduct full-scope on-site examinations of banks at least once every year (for banks that have assets of at least $500 million or that are not considered well-managed or well-capitalized) or 18 months (for banks that have assets of less than $500 million and that are considered well-managed and well-capitalized—CAMELS ratings of 1 or 2). BHC inspections are mandated on an annual or two year basis depending upon size, complexity, and rating, with smaller (less than $1 billion in assets) banks subject to off-site reviews. See CP9 for more on this. A full-scope examination addresses all key areas of a bank’s operations, including capital adequacy, asset quality, management strength and quality of oversight from the bank’s board of directors, compliance with laws and regulations, quality and sustainability of earnings, adequacy of liquidity sources to support on-going cash needs, and sensitivity of a banking organization’s earnings and capital position to market risk. The assessors did see evidence of supervisors employing a forward-looking perspective on their assessments—for example making assessments of the way credit risk and margins will migrate. Banking Institutions with at least $10bn of Assets For many larger banks and holding companies (typically those over $10bn of assets), full scope examinations/inspections consist of a series of targeted reviews during the examination cycle which culminate in a roll-up process where ratings are assigned based upon the results of these targets and the continuous monitoring activities. The requirements and mandates for these on-site activities can be found in the individual agencies’ examination manuals. Additionally, for many of the largest banks and holding companies, one or more of the banking agencies maintains a full-time, on-site examination staff to monitor the banking organizations’ condition and activities. During the period of time in between full-scope, on-site examinations, the agencies maintain a thorough understanding of the bank’s and holding company’s risk profile. This is accomplished through the analysis of quarterly financial statements filed with their relevant agency and the review of regulatory reports that banks and holding companies must file to notify the agencies of changes in their activities and structure. Further, supervisors may request and review key management information reports including, but not limited to, internal audit information, and, in the case of publicly traded banks and holding companies, the consideration of market indices that may provide insight into the market’s assessment of the risk profile. These sources are supplemented by discussions with the banking organization’s management, meetings with its internal and external auditors, and, where no full-time on-site examination staff is maintained, on-site visits to maintain an up-to-date understanding of the financial condition. In addition, the agencies maintain various analytical tools that can help identify emerging risks or changes in the risk profile that may require specified follow-up steps. The CFPB has primary supervisory and enforcement authority with respect to certain federal consumer financial protection laws as applied to banking organizations with assets greater than $10 billion (and their affiliates), and it is responsible for confirming that these organizations appropriately manage their consumer compliance programs for these laws. The Federal Reserve, FDIC, and OCC have primary supervisory and enforcement authority with respect to (i) these same federal consumer financial protection laws as applied to banking organizations with assets of $10 billion or less and (ii) all other federal consumer financial protection laws. The agencies conduct regular Consumer Compliance examinations to confirm that the organization is appropriately managing its compliance risk and complying with U.S. consumer protection laws and regulations. The DFA also requires all financial institutions supervised by the Federal Reserve, FDIC, and OCC with total consolidated assets greater than $10 billion to conduct and submit results from regular company-run stress tests using supervisory-provided financial scenarios designed to help these institutions identify vulnerabilities. The FBAs issued the annual company-run stress testing rules for banks and savings associations in October of 2012. Interagency guidance on DFA stress testing for firms with total assets greater than $10 billion but less than $50 billion was issued on March 13, 2014. Banking Institutions with at least $50bn of Assets The Federal Reserve issued a Capital Plan Rule in November 2011 that requires all U.S.-domiciled, top-tier Bank Holding Companies with total consolidated assets of $50 billion or more to develop and maintain a capital plan supported by a robust process to assess capital adequacy. A guidance note explaining supervisory expectations and range of current practice was issued in August 2013 to support the rule. The preamble to the Capital Plan Rule outlines the elements on which the Federal Reserve evaluates the robustness of a BHC’s internal capital planning process, known as “CAP.” Stress testing is now an integral part of the U.S. supervisory approach. The Federal Reserve, OCC and FDIC, with respect to banks and savings associations under their supervision, have tailored expectations for institutions of different sizes, scope of operations, activities, and systemic importance. The FBAs have conducted stress-testing programs on the largest banking organizations, which have evolved since 2009 when the Supervisory Capital Assessment Program (SCAP) initiated the forward-looking assessment of risk for individual institutions. SCAP, which was applied to 19 institutions, which was followed by the annual Comprehensive Capital Assessment Review (CCAR), applicable to holding companies with total assets greater than $50 billion. The DFA also requires supervisory stress tests, conducted by the Federal Reserve, which are designed to assess the resiliency of banking organizations’ capital positions under various baseline, adverse, and severely adverse supervisory-provided economic conditions. This program provides for the collection and analysis of a significant amount of granular institution-specific asset and liability data to better assess idiosyncratic and systemic risks to these firm’s capital positions. | ||||||||||||||||||||||||||||||
| EC3 | The supervisor assesses banks’ and banking groups’ compliance with prudential regulations and other legal requirements. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | All Banks Examinations address all key areas of a bank’s operations, including capital adequacy, asset quality, management strength and quality of oversight from the bank’s board of directors, compliance with laws and regulations, quality and sustainability of earnings, adequacy of liquidity sources to support on-going cash needs, and sensitivity of a banking organization’s earnings and capital position to market risk. During regular on-site examinations, the U.S. FBAs complete a series of testing procedures, contained in the agencies’ examination and inspection manuals, to confirm banks’ and holding companies’ compliance with prudential regulations and other legal requirements. In addition, compliance with some rules is monitored on an on-going basis through the collection and analysis of financial and structure reports that are required to be filed by banking organizations. U.S. federal banking supervisors confirm that banks and holding companies also maintain policies and procedures designed to ensure their compliance with applicable laws and regulations. These internal compliance programs are evaluated by the banking agencies during on-site examinations. U.S. FBAs have developed and maintained extensive supervisory guidance to evaluate compliance programs and specific areas including internal controls, audit, consumer protection, fair credit reporting, home mortgage disclosure, real estate settlement procedures, and anti-money-laundering, among others. A complete listing of the guidance is available through each agency. | ||||||||||||||||||||||||||||||
| EC4 | The supervisor takes the macroeconomic environment into account in its risk assessment of banks and banking groups. The supervisor also takes into account cross-sectoral developments, for example in non-bank financial institutions, through frequent contact with their regulators. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | All Banks On an on-going basis, supervisors monitor and assess banks and holding companies through financial statements that each are required to file. These financial statements consist of a balance sheet, income statement, and supporting financial schedules. Using aggregations of these data, the banking agencies complete analyses addressing overall conditions within the banking industry. These analyses highlight earnings performance, industry capitalization levels, lending concentrations, and many other fundamental and specialized areas of the bank’s or holding company’s operations, and are used to assess trends, developments, and risks for the banking system as a whole. The agencies also make use of higher-level risk committees, made up of senior agency officials, to evaluate and assess the macroeconomic risks facing the financial system. In addition, the results of formal off-site monitoring programs, which use the submitted financial data to identify emerging problems in supervised banks and holding companies, are also used to monitor banking industry trends. The agencies also maintain contacts with a variety of market and industry analysts to obtain insights on emerging risks that may affect the banking system and financial markets as a whole. For example, the OCC has a Financial Markets Group specifically dedicated to monitoring and analyzing market developments and trends, and maintaining contact with market participants. This group conducts periodic meetings with various market analysts, hedge fund managers, and other key players to get their insights on emerging risks. The U.S. President’s Working Group on Financial Markets facilitates coordination among the agencies and other market regulators on issues and risks that cut across the financial sector. The FSOC, created under DFA, is another important organization that monitors cross-sectoral financial developments, including developments in non-banking sectors. The heads of the Federal Reserve, OCC, CFPB, and FDIC are all members of the FSOC and these agencies also participate at the staff level. The agencies also periodically consult with the supervisors of major non-bank organizations in the U.S., including the SEC in the case of broker-dealers and the state insurance authorities in the case of insurance companies, to help to evaluate the impact of these institutions’ activities on the condition of holding companies. OCC also has a structure of risk committees that feed into the National Risk Committee. The Federal Reserve has also recently created a Risk Council. Both of the groups serve as a conduit for risks coming up from the vertical firm-facing supervisors and also the macro-economic view coming down. Banking Institutions with at least $10bn of Assets The DFA requires an annual company-run stress test to be conducted at the bank and holding company level for certain large financial institutions Banking Institutions with at least $50bn of Assets The Federal Reserve is required to conduct an annual supervisory stress test on all large Bank Holding Companies and nonbank financial companies designated by the FSOC to evaluate whether they have sufficient capital to absorb losses resulting from adverse economic conditions. The annual supervisory stress test, conducted as part of the annual CCAR exercise, includes economic scenarios (baseline, adverse, and severely adverse) provided by the Federal Reserve that define the annual supervisory assessment. Each firm subject to CCAR is required to maintain sufficient capital to withstand nine quarters of a severely adverse macroeconomic environment. In addition, the aggregate assessment for the most recent CCAR exercise indicated a significantly higher level of aggregate capital since the initial SCAP review was conducted during the crisis for the largest BHCs. In addition to the annual supervisory-run stress tests conducted by the Federal Reserve at Bank Holding Companies with total consolidated assets of more than $50 billion, the Federal Reserve requires that these institutions conduct a second company-run stress test each year. These company-run stress tests are designed to assess the potential impact of stressed economic conditions on the institutions consolidated earnings, losses and capital over a nine quarters planning horizon, taking into account the institution’s current condition, risk, exposures, strategies and activities. The stress test scenarios (baseline, adverse, and severely adverse) required to be used for the company run stress test are developed in coordination by the agencies but generally the agencies expect that these scenarios will typically mirror the scenarios applied by the Federal Reserve under the supervisory-run stress tests. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor, in conjunction with other relevant authorities, identifies, monitors and assesses the build-up of risks, trends and concentrations within and across the banking system as a whole. This includes, among other things, banks’ problem assets and sources of liquidity (such as domestic and foreign currency funding conditions, and costs). The supervisor incorporates this analysis into its assessment of banks and banking groups and addresses proactively any serious threat to the stability of the banking system. The supervisor communicates any significant trends or emerging risks identified to banks and to other relevant authorities with responsibilities for financial system stability. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | All Banks Each of the U.S. FBAs employs off-site surveillance procedures for measuring and monitoring the risk profiles of individual banks and holding companies and the banking environment as a whole for possible systemic risks. These surveillance systems focus heavily on identifying banks and holding companies that are exhibiting problems or deteriorating so that examination resources can be directed to troubled organizations. They also flag banks and holding companies engaging in new or complex activities. These programs use a mix of predictive econometric models, expert systems based on judgmentally determined screens, and market-based financial measures to identify banks and holding companies warranting a heightened supervisory focus. For example, the agencies have adopted a standardized request for electronic loan files that supervisors can use to analyze, sample, and report on the contents of a loan trial balance. Other examples include the Federal Reserve’s SR-SABR model, the OCC’s Canary System, and the FDIC’s Large Insured Depository Institution (LIDI) program. Through their on-going risk assessment processes, the agencies also look for risks that may be increasing or risk-management systems that may need improvements. For example, the OCC, FDIC, and Federal Reserve have risk assessment systems that evaluate whether the direction of a bank’s risk profile is increasing, decreasing, or stable. The agencies use a variety of means to convey actions to bank boards and senior management. The assessors found that regulators can make recommendations, criticisms, matters requiring attention (MRA), matters requiring board attention (MRBA) and matters requiring immediate attention (MRIA). The range of these approaches and for some firms (the sheer volume of them) makes prioritization difficult. The assessors also noted that some of the matters requiring attention could be outstanding for a considerable amount of time. The agencies also conduct annually a joint review of the largest, complex credits that are shared by three or more banks. This annual review provides an opportunity for the agencies to identify trends in underwriting and credit classification practices, as well as overall commercial credit conditions, across the banking system. The 2013 review included over 9,300 credit facilities totaling $3.0 trillion extended to approximately 5,800 borrowers. The FSOC is charged with identifying risks to the financial stability of the U.S.; promoting market discipline; and responding to emerging risks to the stability of the U.S. financial system. The assessors saw some very good management reports one example from the OCC showing trends in credit (e.g. concentrations by industry, geography and type of institution, and trend in probability of defaults) and counterparty credit was very useful. | ||||||||||||||||||||||||||||||
| EC6 | Drawing on information provided by the bank and other national supervisors, the supervisor, in conjunction with the resolution authority, assesses the bank’s resolvability where appropriate, having regard to the bank’s risk profile and systemic importance. When bank-specific barriers to orderly resolution are identified, the supervisor requires, where necessary, banks to adopt appropriate measures, such as changes to business strategies, managerial, operational and ownership structures, and internal procedures. Any such measures take into account their effect on the soundness and stability of on-going business. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | All Banks The Prompt Corrective Action statute and implementing regulations by the Federal Reserve, the FDIC and OCC provide the agencies with authority to promptly resolve capital deficiencies at insured depository institutions and thereby reduce bank failures. In addition the assessors found that additional FDIC resolution scrutiny was triggered either because of an alert (such as high growth) from their remote monitoring system or because the CAMELS rating is a 3, 4 or 5. Resolution work for most banks is therefore on a risk basis. Banking Institutions with at least $50bn of Assets Additionally, under the DFA, systemically-significant bank holding companies or nonbank financial firms are required to submit periodic reports to the agencies providing the plan of the company for rapid and orderly resolution in the event of material financial distress or failure. To implement the DFA’s requirement for resolution plans for certain banking organizations, the Federal Reserve and FDIC issued regulations in November 2011. The regulations require all domestic bank holding companies and FBOs with total consolidated assets of $50 billion or more and non-bank financial companies designated by FSOC (covered companies) to submit annually their plans (resolution plan or living will) for rapid and orderly resolution under the U.S. Bankruptcy Code in the event of material financial distress or failure. The Federal Reserve and FDIC do not approve resolution plans, but they may jointly find a plan is not credible or would not facilitate an orderly resolution in bankruptcy. If a resolution plan is found to have deficiencies, a covered company will have 90 days to resubmit a plan; if deficiencies are not corrected, the firm may become subject to more stringent capital, leverage, or liquidity requirements, or restrictions on growth, activities, or operations. A covered company’s resolution plan may not rely on extraordinary government support. These company prepared plans are used to support the FDIC’s planning for the exercise of its resolution authority under the DFA and FDI Act by providing the FDIC with an understanding of the company’s structure, complexity, strategies and processes. These resolution plans promote financial system stability by minimizing the potential impact of a resolution of a covered company. The resolution plans consider the direct and indirect effects of a resolution of a covered company on market and public confidence while ensuring accountability by having the failed company’s investors bear the losses arising from a failure. Resolution plans ensure that no taxpayer credit supports a failing covered company and implements a process for assessing the industry to cover payments associated with the resolution of a covered company. Resolution plans preserve day-to-day operations in order to promote market confidence and implement an expedient process for resolution. | ||||||||||||||||||||||||||||||
| EC7 | The supervisor has a clear framework or process for handling banks in times of stress, such that any decisions to require or undertake recovery or resolution actions are made in a timely manner. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | All Banks The Prompt Corrective Action statute and implementing regulations by the Federal Reserve, the FDIC and OCC provide the agencies with authority to promptly resolve capital deficiencies at insured depository institutions and thereby reduce bank failures. In addition regulators carried out additional intensive supervision for banks with CAMELS ratings of 3, 4 or 5. For example, the OCC has roughly 70 banks (and thrifts) in their Special Supervision function. Banking Institutions with at least $50bn of Assets Additionally, under the Dodd Frank Act, systemically-significant bank holding companies or nonbank financial firms are required to submit periodic reports to the agencies providing the plan of the company for rapid and orderly resolution in the event of material financial distress or failure. See EC6 | ||||||||||||||||||||||||||||||
| EC8 | Where the supervisor becomes aware of bank-like activities being performed fully or partially outside the regulatory perimeter, the supervisor takes appropriate steps to draw the matter to the attention of the responsible authority. Where the supervisor becomes aware of banks restructuring their activities to avoid the regulatory perimeter, the supervisor takes appropriate steps to address this. | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | When bank-like activities are performed outside the regulatory perimeter, the FBAs are able to raise the issue with Congress, which would be responsible for addressing the issue through legislation. Supervisors have the authority to prevent or preclude restructuring for purposes of evading the regulatory perimeter. The FSOC is charged with identifying risks to the financial stability of the U.S.; promoting market discipline; and responding to emerging risks to the stability of the U.S. financial system. This would include identifying risks from financial activities that reside or have been pushed out of the existing regulatory perimeter. Supervisors generally expect banks and holding companies to notify them of any substantive changes in their activities, structure and overall condition, or as soon as they become aware of any material adverse developments, including breach of legal or prudential requirements. Supervisors identify deviating or new bank-like activities primarily through onsite examination work. Other means that alert supervisors to new activities include formal off-site monitoring programs and required regulatory reports on structure to identify banks and holding companies substantively changing their activities. Regardless of the structure of the entity, if impermissible activities are detected there are a number of actions and strategies the agencies may employ in order to curtail or eliminate these activities. Supervisors can require impermissible or unsafe and unsound activities be eliminated through informal corrective actions and formal corrective actions. Informal corrective action programs include bilateral agreements that provide direction and instruction to the supervised institution. Formal corrective action programs, which are enforceable through court action, provide instruction to institutions to take specific corrective action to resolve the outstanding issue(s). In approving applications, generally, the U.S. banking agencies may impose conditions that require banks or bank holding companies to provide prior notice of any changes to the business plans or related documents submitted in conjunction with the underlying application or filing. For example, in the case of new banks and holding companies, U.S. banking agencies routinely include a condition in their approval orders that requires prior notice of any change to the new organization’s business plan during the first three years of operation. After this period, changes in the activities, if permissible under state and federal law, would be subject to review during periodic safety and soundness examinations. For state non-member banks, the FDIC also includes a condition in the approval order that requires the bank to submit pro forma financial statements and a business plan for operating years four through seven to the appropriate FDIC office within 60 day before the end of the bank’s third year of operation. The FDIC monitors compliance with such plans during the annual examination process and requires prior non-objection for any material deviations or material changes from the plan. Further, U.S. FBAs may impose notification requirements formally or informally as determined by supervisors. | ||||||||||||||||||||||||||||||
| Assessment of Principle 8 | Compliant | ||||||||||||||||||||||||||||||
| Comments | The U.S. system of regulation is changing rapidly. Some of that change is internally driven, but some is external – either from legislative change (such as the DFA) or from international policy agreements. The combination of these changes has broadened the role of supervision and has introduced a greater level of tiering into the regime (e.g. Banking Institutions with at least $50bn of Assets). The assessors find that the net effect of these changes has been positive. The supervisory regime is effective and risk-based. There is an increasing focus on resolution (for the larger firms). The range of approaches the regulators use to communicate issues (EC 5) that are important to them and on which they seek action does run the risk of confusing messages. The supervisors should consider some simplification of this system and ideally it might be something that the supervisors could agree an interagency approach—at the moment all make use of Matters Requiring Attention, with the Federal Reserve using Matters Requiring Immediate Attention and also Matters Requiring Board Attention which is used by Federal Reserve and the OCC. Furthermore where supervisors have a substantial agenda of issues to be resolved—the assessors saw some firms with over 100 matters requiring attention, the supervisors should consider clearer methods of prioritization and communication. This should not be to devalue the individual items themselves, but should instead be thought of as a better way to convey supervisory issues and themes to the Boards of Banks. The assessors were also concerned to see that some matters requiring attention had been outstanding for a long time—three years for example. Supervisory management was aware of these cases and indeed had good management information to track ageing of matters requiring attention. The assessors agreed with Supervisor Senior Management that the cause of the aging was not just the target banks being behind in delivery, but also that the matters requiring attention were not well drafted or had not taken adequate consideration of feasible delivery times. (See CP 11 – authorities have started addressing the issue). | ||||||||||||||||||||||||||||||
| Principle 9 | Supervisory techniques and tools. The supervisor uses an appropriate range of techniques and tools to implement the supervisory approach and deploys supervisory resources on a proportionate basis, taking into account the risk profile and systemic importance of banks. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The supervisor employs an appropriate mix of on-site36 and off-site37 supervision to evaluate the condition of banks and banking groups, their risk profile, internal control environment and the corrective measures necessary to address supervisory concerns. The specific mix between on-site and off-site supervision may be determined by the particular conditions and circumstances of the country and the bank. The supervisor regularly assesses the quality, effectiveness and integration of its on-site and off-site functions, and amends its approach, as needed. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | All Banks The U.S. firmly adopts a risk-based approach to supervision. This is both in terms of its focus on risk within banks, but also adjusting that approach in proportion to the risk banks pose to the system. The supervisory process is highly structured with a high proportion of mandated reviews (both offsite and onsite), a uniform rating process and an extensive planning process that agrees the supervisory strategy going forward. U.S. regulators have a statutory responsibility to ensure and evaluate safety and soundness. The agencies have segmented the banking organizations under their respective jurisdictions, taking into account legislative thresholds (such as those in the DFA) and adjusting, where possible, for different risk profiles and business models. Each agency has dedicated resources proportionately to the size and complexity of the supervised organization. Supervision is accomplished through a combination of on-site examinations, off-site reviews and surveillance monitoring programs. In general, the primary federal banking supervisor conducts annual, on-site examinations of the banks within its jurisdiction. Examination areas for all banks and holding companies include any cross-border operations. In its role as a holding company supervisor, the Federal Reserve also conducts inspections and makes risk assessments of a holding company’s operations. In addition to examining national banks and their affiliates, the OCC examines federal branches and federal agencies of foreign banks. The Federal Reserve alternates with state regulators in examining state licensed branches and agencies of foreign banks. All of the U.S. FBAs examine bank service companies. Off-site supervision involves periodic surveillance and assessment of information from a variety of sources, including standard regulatory reports and internal information received from the supervised bank and holding company. The standard regulatory reports capture a host of commercial and financial information on supervised entities. The number and the type of standard regulatory report forms that must be filed depend on the size of a bank or holding company and the scope of its operations. Off-site surveillance also includes a review of reports of recent examinations and inspections, internal management and internal and external auditor reports (when requested by supervisors), reports filed by public companies (e.g., 10-Qs and 10-Ks), application materials, and publicly available material (e.g., information published in the financial press and elsewhere). In addition, it includes information obtained from regular discussions with management, internal and external auditors, and other supervisors, both foreign and domestic. Through on-site examinations and continuous supervision, supervisory staff generally: (1) evaluate the soundness of the bank’s or holding company’s assets and the effectiveness of its internal controls, policies, and management; (2) analyze key financial factors such as the bank’s and holding company’s capital, earnings, liquidity, and sensitivity to interest rate risk; (3) assess the bank’s or holding company’s exposure to off-balance-sheet risks; (4) check for compliance with banking laws and regulations; and (5) determine the bank’s or holding company’s overall soundness and solvency. In addition to these specific areas, supervisors also evaluate transactions between a bank or holding company and its affiliates to determine the effect of the transactions on the bank’s or holding company’s condition and to ascertain whether the transactions are consistent with the limitations set out in sections 23A and 23B of the Federal Reserve Act. Each agency has the authority to take an enforcement action if, in the agency’s opinion, the bank, holding company or any institution-affiliated party (IAP) is engaging or has engaged, or the agency has reasonable cause to believe that the bank, holding company or any IAP is about to engage in an unsafe or unsound practice, or is violating or has violated, or the agency has reasonable cause to believe that the bank, holding company or any IAP is about to violate a law, rule, or regulation, or any condition imposed in writing by the agency in connection with the granting of any application or other request by the bank or holding company or any written agreement entered into with the agency. The primary FBAs generally have the authority to examine affiliates of the bank under their supervision. The OCC’s process regarding a functionally regulated affiliate of a national bank are described in the Comptroller’s Handbook, Bank Supervision Process (Sept. 2007), pages 16-18. The Federal Reserve has the authority to examine bank subsidiaries of Bank Holding Companies; however, the Federal Reserve must rely to the fullest extent possible on the bank examinations conducted by the primary federal banking or functional supervisor. The Federal Reserve is the primary federal supervisor of Savings and Loan Holding Companies and must rely to the fullest extent possible on the examinations conducted by the primary supervisor of savings banks (e.g., state savings banks regulated by the FDIC). In addition, all of the FBAs rely to the fullest extent possible on the functional supervisors of the securities and insurance subsidiaries and any other subsidiary that is subject to comprehensive supervision by a federal or state authority for supervisory information to minimize duplication and unnecessary regulatory burden on regulated entities. The U.S. FBAs routinely share supervisory information with each other and with the functional supervisors, as needed. In addition, the U.S. Attorney General, Secretary of the Treasury, and the head of other federal agencies are required, unless prohibited by law, to disclose to the appropriate federal banking agency any information they believe raises significant concerns regarding the safety or soundness of any bank or holding company. While each holding company and bank has a primary federal regulator, there are certain cases where there is overlapping examination authority among the federal supervisors. For example, the FDIC has the authority to conduct a special examination of any insured depository institution to independently determine the condition of that bank for purposes of the FDIC’s deposit insurance. Banking Institutions with less than $500mn of Assets Generally smaller banks are subject to an annual examination. However, smaller banks that satisfy certain qualifying criteria (typically CAMELS ratings of 1 or 2 for management and overall) may be examined on an 18-month cycle [see Table 9.1 for more detail broken down by, State Member Banks (SMB), FDIC and OCC]. The OCC maintains a supervision strategy for each of its nationally chartered banks and federal savings associations, and each of the U.S. FBAs retains authority to examine a bank as frequently as it deems necessary. For example, the FDIC would conduct annual examination of problem institutions (typically CAMELS ratings of 3, 4 or 5) less than $500 million, and depending on the nature of the problems, conduct more frequent visits. Small bank holding company (less than $10bn in assets) inspections are conducted by the Federal Reserve and the majority follow the lead bank’s supervisory cycle.
For larger banks and holding companies (typically those above $10bn in Assets), the federal banking agency maintains resident on-site supervisors who provide continuous supervision of the banking organization and at least quarterly updates on the bank’s and holding company’s condition and risk. In each of its designated large banks, the OCC maintains an onsite resident team that follows a specific detailed supervision strategy tailored for each national bank or Federal savings association. This includes targeted examinations that may include Federal Reserve, FDIC, and CFPB participation or collaboration. With respect to insured depository institutions with total assets greater than $10 billion and any affiliates, and insured credit unions with total assets of more than $10 billion and any affiliates, the CFPB has exclusive authority to require reports and conduct examinations for the purposes of assessing compliance with the requirements of Federal consumer financial laws; obtaining information about the activities subject to such laws and the associated compliance systems or procedures of such persons; and detecting and assessing associated risks to consumers and to markets for consumer financial products and services. As applicable, the U.S. FBAs and the CFPB are required to coordinate the scheduling of examinations of insured depository institutions, insured credit unions, or other covered persons; conduct simultaneous examinations of such institutions unless the institution requests examinations to be conducted separately; share each draft report of examination with the other agency and permit the receiving agency a reasonable opportunity (which shall not be less than a period of 30 days after the date of receipt) to comment on the draft report before such report is made final; and prior to issuing a final report of examination or taking supervisory action, take into consideration concerns, if any, raised by the other agency in its comments. The CFPB, OCC, Federal Reserve, and FDIC entered into a Memorandum of Understanding, dated May 16, 2012, to facilitate the implementation of these statutory provisions. In addition, under Section 165(i)(2) the FDIC, the OCC and the Federal Reserve require banks and savings associations with more than $10 billion in assets to conduct annual company-run stress tests themselves. These company-run stress tests are required to be conducted annually and are designed to assess the potential impact of adverse economic conditions on the consolidated earnings, and capital over a nine quarters planning horizon, taking into account the institution’s current condition, risk, exposures, strategies and activities. The stress test scenarios (baseline, adverse, and severely adverse) required to be used for the company run stress test are developed in coordination by the agencies but generally the agencies expect that these scenarios will typically mirror the scenarios applied by the Federal Reserve under the supervisory-run stress tests. Banking Institutions with at least $50bn of Assets The Federal Reserve has divided its largest banks into two groups – largest, most systemically important financial institutions in the U.S. are overseen by the LISCC. The LISCC is a multi-disciplinary committee composed of senior officers representing various functions at the Federal Reserve and the 12 Federal Reserve Banks, including supervisors, economists, and market specialists. Firms supervised in the LISCC portfolio are financial institutions that may pose elevated risks to U.S. financial stability. Financial institutions included in the LISCC portfolio are referred to as “LISCC firms.” Members of the LISCC Operating Committee provide the macro-prudential perspective to supervision of the LISCC firms. LISCC provides strategic and policy direction for supervisory activities across the Federal Reserve system in order to improve the consistency and quality of supervision of LISCC firms. Similarly, LISCC supervision is supported by the Quantitative Surveillance (QS) group that identifies systemic and firm-specific risk identification through aggregate loss forecasts, stressed capital adequacy analysis and measures of interconnectedness. The QS includes staff members from the Board’s Divisions of Research and Statistics, Monetary Affairs, International Finance, and Banking Supervision and Regulation, and from the Reserve Banks. LISCC supervision also uses horizontal examinations among LISCC firms and a high degree of consultation and coordination among supervisors from the Federal Reserve System of LISCC firms. Generally for banks above $50bn of assets, there is a greater level of resource allocated to supervision. The assessors also noted that there has been an increase in horizontal resources and supervision. For example the Federal Reserve’s QS group and the OCC’s Lead Expert Group. There has also been an increase in the number of horizontal examinations. As required by Section 165(i) of the DFA, the agencies have adopted rules requiring various BHC and bank level stress tests. Specifically, under Section 165(i)(1) the Federal Reserve requires bank holding companies with $50 billion or more in assets to conduct annual supervisory-run stress tests, using the exposure data submitted by the institutions. These supervisory run stress tests are conducted by the Federal Reserve on the largest institutions with participation of staff from the OCC and the FDIC, on both domestic and foreign-owned institutions. The covered institutions file quarterly data submissions to support on-going analysis of their risks. The institutions are expected to maintain a well-documented risk and capital modeling process that covers all major risk areas of the institution. The results of these tests, along with both qualitative and quantitative feedback, are provided in writing to the institutions at the conclusion of the tests. | ||||||||||||||||||||||||||||||
| EC2 | The supervisor has a coherent process for planning and executing on-site and off-site activities. There are policies and processes to ensure that such activities are conducted on a thorough and consistent basis with clear responsibilities, objectives and outputs, and that there is effective coordination and information sharing between the on-site and off-site functions. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | Each of the U.S. FBAs and the CFPB maintains written guidance for planning and executing on-site and off-site activities. Generally, agencies annually develop on- and off-site examination strategies and goals based on the risk profile of the bank or holding company. Guidance can be found in each of the agencies’ examination manuals, which are updated periodically. The guidance specifies the objectives and expected actions and outputs for these activities, and also details basic procedures for completing on-site reviews and implementing off-site surveillance programs. Coordination and information sharing between on- and off-site supervision functions is facilitated by formal off-site monitoring programs that trigger follow-up by the on-site function when banks and holding companies meet various screening thresholds. In addition, supervisory policies require the consideration of off-site monitoring results when supervisors are determining the scope and procedures for on-site reviews. There has been an increase in the coordination of plans between the supervisors – the assessors saw evidence of consultation on plans and also joint participation in the planning process. Jointly resourced examinations are also commonplace. However the assessors noted that planning cycles differ materially between organizations and as such this can and does limit the extent to which coordination can exist—for example a request for resource to join in on an examination may be thwarted because resources have been committed by a planning process that had begun and been completed earlier. | ||||||||||||||||||||||||||||||
| EC3 | The supervisor uses a variety of information to regularly review and assess the safety and soundness of banks, the evaluation of material risks, and the identification of necessary corrective actions and supervisory actions. This includes information, such as prudential reports, statistical returns, information on a bank’s related entities, and publicly available information. The supervisor determines that information provided by banks is reliable38 and obtains, as necessary, additional information on the banks and their related entities. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | The supervisors receive a significant of information in the form of regulatory returns and also from ad hoc data requests. On-site examinations address all key areas of a bank’s and holding company’s operations, including capital adequacy, asset quality, management strength and quality of oversight from the board of directors, compliance with laws and regulations, quality and sustainability of earnings, the adequacy of liquidity sources to support on-going cash needs, and sensitivity of earnings and capital position to market risk. These reviews incorporate independent assessments of the effectiveness of risk management, internal controls, management reporting, and overall corporate governance. In addition, examination procedures may be directed to validating the reliability and accuracy of financial data reported to the agencies. Also, at each examination, supervisors evaluate any follow-up to supervisory concerns raised at prior examinations or as a result of off-site monitoring. During on-site examinations, U.S. federal banking supervisors review the most recent external auditor’s assessment of the bank’s or holding company’s financials and the work of the loan review function and internal audit. Typically, supervisors review audit testing of financial and Call Report reconcilements and accuracy. Section 404 of the Sarbanes-Oxley Act, requires an external auditor of a bank or holding company that is a public company annually to render an opinion on the effectiveness of the company’s internal controls over financial reporting and make a management assessment. Banking Institutions with at least $1bn of Assets For banks over $1 billion, section 112 of the Federal Deposit Insurance Corporation Improvement Act (FDICIA) requires a formal attestation from company management on the quality of the internal control structure. External auditors are required to attest to, and report separately on, the assertions of the bank’s management regarding internal controls. Banking Institutions with at least $10bn of Assets As part of their Report of Examination, supervisors will specify matters requiring attention from the board. These are practices that deviate from sound governance, internal control, and risk management principles, which may adversely impact earnings or the capital, risk profile, or reputation if not addressed, or that result in substantial noncompliance with laws and regulations, internal processes, or supervisory guidelines. Supervisors evaluate management plans for corrective action and consider whether they are likely to be effective. In cases of severe problems or where management has been unable or unwilling to correct deficiencies, either formal or informal actions are typically issued against the bank and holding company. These actions often require the bank or holding company to correct the most serious of examination findings and communicate progress of those corrections to the responsible agency, commonly on a quarterly basis. The U.S. federal banking agency then has the ability to render judgment on management’s progress and can in turn structure the ongoing supervisory plans accordingly. Continuous monitoring is also an important supervisory tool at the largest U.S. banking organizations. Continuous monitoring activities include meetings with a banking organization’s management and directors; review of governance committee meeting notes and information packages, analysis of internal MIS reports, market indicators, and other internal and external information; review of internal and external audit and compliance findings; analysis of internal and external financial reporting including regulatory and business line reporting, cross-firm analysis, identification of emerging issues and coordination with other relevant supervisors and functional regulators and utilization of their work as appropriate. | ||||||||||||||||||||||||||||||
| EC4 | The supervisor uses a variety of tools to regularly review and assess the safety and soundness of banks and the banking system, such as:
The supervisor communicates its findings to the bank as appropriate and requires the bank to take action to mitigate any particular vulnerability that have the potential to affect its safety and soundness. The supervisor uses its analysis to determine follow-up work required, if any. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | As part of formal, off-site monitoring programs, the U.S. FBAs use automated screening systems, regulatory reports, standardized financial reports detailing key financial ratios and measures, and public sources of financial information to monitor the performance and condition of supervised banks and holding companies and promptly identify those requiring heightened supervisory attention. Supervisors periodically (e.g., quarterly) communicate with the bank’s or holding company’s management to discuss emerging issues or concerns. Supervisors also provide written reports following targeted or limited-scope examinations, horizontal / comparative examinations, and annual summary reports that provide the supervised institution with a consolidated overview of supervisors’ view of the institution as a whole, including assessments of significant subsidiary operations. Examination staff also uses off-site surveillance tools and reports to plan the scope of, and determine priorities for, on-site examination work, as well as to monitor the progress in responding to matters requiring further attention. Included in this analysis is monitoring of standardized financial data from financial reports such as the FFEIC 031 or 041 Consolidated Reports of Condition and Income (Call Report), FR-Y9 Consolidated Financial Statements for Holding Companies. Supervisors carry out comparative peer analyses of the standardized reports for all organizations. Further, supervisors require banks to submit financial reports and management analyses of the overall organization, subsidiaries, and business activities including financial, market risk, and operational risk management analyses that reflect each organization’s unique mix of activities. Supervisors also receive copies of board of directors’ minutes and exhibits, minutes and exhibits for their various committees, as well as minutes and materials for significant management committees throughout the supervised organization. The supervisors use a range of supervisory activities to maintain a comprehensive understanding and assessment of each firm, including:
Supervisors also review corporate governance, risk management systems and practices, as well as the internal control systems, including operations, management information systems and audit effectiveness, in assessing an institution’s overall condition. These reviews seek two primary objectives:
Each firm is expected to ensure the sustainability of its critical operations and banking offices under a broad range of internal or external stresses. This requires, among other things, effective resolution planning that addresses the complexity and the interconnectivity of the firm’s operations. The assessors found business model analysis much improved since the last BCP assessment, but still evolving. At the moment the assessors judged that it was adequately serving the prudential agenda but there was scope for further improvement to support more strategic assessments. In terms of communication, the assessors found that the size of some letters and reports were extensive and could often lose key messages - particularly when addressed to Board of Directors. This is particularly the case where there are extensive MRAs or observations in terms of particular credit loans or transactions. In some examples the assessors found supervisors had used what the assessors considered to be excessive praise in their communication to banks. The assessors regard this as different from supervisors making sound judgments and producing a balanced piece of feedback to the banks. Also the assessors noted some examples of communication that seemed to spend a large amount of time recounting the recent events in the bank to the bank themselves. This is not to say that supervisors should not put their own judgments into context, but the assessors felt that the histories could be reduced a little with no loss of context. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor, in conjunction with other relevant authorities, seeks to identify, assess and mitigate any emerging risks across banks and to the banking system as a whole, potentially including conducting supervisory stress tests (on individual banks or system-wide). The supervisor communicates its findings as appropriate to either banks or the industry and requires banks to take action to mitigate any particular vulnerability that have the potential to affect the stability of the banking system, where appropriate. The supervisor uses its analysis to determine follow-up work required, if any. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | All Banks Supervisory agencies use analysis from their own staff economists and financial analysts, who monitor trends in domestic U.S. financial markets and global markets, for emerging risks or concentrations of risk in supervised institutions. The OCC has a formal risk monitoring process known as the National Risk Committee (NRC). The objectives of the NRC are to identify primary and emerging risks to the national banking system; stay abreast of evolving business practices and financial market issues; inform the OCC’s Executive Committee of material risks facing the national banking system; and facilitate communication of risk issues and OCC supervisory efforts to address those issues. The NRC issues a semi-annual report, in the Spring and Autumn. The supervisors internally use horizontal examinations or comparative analysis to detect institutions with concentrations of risk, or where trends in risks taken appear to constitute a threat to safety and soundness of the institutions. Similarly, the supervisors also look at trends in the functioning of bank operations, including studies or horizontal examination work aimed at the operations of supervised institutions, to identify emerging risks as well as best practices. Findings of these are communicated to institutions through a number of means. Where the findings affect a single institution or a small group of institutions, a direct supervisory letter might be the means of communication. Where the risk is emerging but not a threat, discussion with management, public comment by supervisory leaders, informal written guidance from supervisors such as Bulletins, Financial Institution Letters, Supervision & Regulation or Community Affairs Letters, Handbooks and Examination Manual updates are all used. The Federal Reserve has also just created a Risk Council to bring together their view of risks within regulated firms. Banking Institutions with at least $10bn of Assets Supervisors require an annual company-run stress test to be conducted at the bank level. These company-run stress tests are designed to assess the potential impact of stress under various economic conditions on the institution’s consolidated earnings, losses and capital over a nine quarters planning horizon, taking into account the institution’s current condition, risk, exposures, strategies and activities. The stress test scenarios (baseline, adverse, and severely adverse) required to be used for the company run stress test are developed in coordination by the agencies but generally the agencies expect that these scenarios will typically mirror the scenarios applied by the Federal Reserve under the supervisory-run stress tests. Banking Institutions with at least $50bn of Assets Supervisory-run stress tests are conducted on the largest institutions by the Federal Reserve along with participation of staff from the OCC and the FDIC, on both domestic and foreign-owned institutions on an annual basis. The covered institutions file quarterly data submissions to support on-going analysis of their risks. On an annual basis, the institutions are expected to maintain a well-documented risk and capital modeling process that covers all major risk areas of the institution. The Federal Reserve instructs financial and bank holding companies to submit the results of their own financial stress tests each year, using financial scenarios developed by the institutions, along with stress tests for a scenario provided by the Federal Reserve. In addition, the Federal Reserve conducts its own supervisory stress tests, using the exposure data submitted by the institutions that they used for their own internal tests, to assess the impact of identical stresses on each institution’s unique business portfolios. The results of these tests, along with both qualitative and quantitative feedback, are provided in writing to the institutions at the conclusion of the tests. The results, along with any supervisory findings from the tests, then become a component of the Federal Reserve’s annual assessment of the institution. Recently the Federal Reserve has also begun conducting stress tests solely focused upon liquidity of its institutions in the LISCC portfolio. The supervisory teams that monitor each institution year-round are part of the team that conducts the tests and assesses results, in order to clearly transition findings of the tests into any necessary supervisory actions over the following year. | ||||||||||||||||||||||||||||||
| EC6 | The supervisor evaluates the work of the bank’s internal audit function, and determines whether, and to what extent, it may rely on the internal auditors’ work to identify areas of potential risk. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | All Banks The U.S. FBAs assess the quality and scope of every bank’s and holding company’s internal audit function, whether or not audits are performed by the bank’s or holding company’s own staff or an outside vendor. These assessments include consideration of the independence of the function, the appropriateness of the risk assessment program for addressing the activities and risks of the bank or holding company, the size and quality of staffing, and the effectiveness and completeness of audits performed. The results of this assessment are used in determining how reliable the resulting internal audit work product is and whether it may be relied upon in developing a supervisory assessment of a bank’s or holding company’s soundness, risk profile, and internal controls. Examination manuals maintained by the various agencies provide details of procedures used to evaluate a bank’s and holding company’s audit function. | ||||||||||||||||||||||||||||||
| EC7 | The supervisor maintains sufficiently frequent contacts as appropriate with the bank’s Board, non-executive Board members and senior and middle management (including heads of individual business units and control functions) to develop an understanding of and assess matters such as strategy, group structure, corporate governance, performance, capital adequacy, liquidity, asset quality, risk management systems and internal controls. Where necessary, the supervisor challenges the bank’s Board and senior management on the assumptions made in setting strategies and business models. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | All Banks Throughout the supervisory process, the U.S. FBAs communicate extensively with the bank’s and holding company’s board, non-executive directors, audit committee, and senior and middle management (including heads of individual business units and control functions). This communication facilitates the development of an understanding and assessment of such matters as strategy, group structure, corporate governance, performance, capital adequacy, liquidity, asset quality, and risk-management systems. It also provides an opportunity for the banking agencies to deliver recommendations for corrective actions as needed and follow a bank’s and holding company’s progress in addressing earlier recommendations. At the conclusion of each exam, the supervisor will meet with the bank’s or holding company’s senior management and board of directors to discuss findings including any significant issues and to obtain management’s commitment to correct any weaknesses noted during the exam. The banking agencies also provide the bank’s or holding company’s board of directors a written report of examination for review by all directors and senior officers. The report of examination conveys the overall condition and risk profile of the bank and provides conclusions on the assigned supervisory CAMELS ratings (those ratings assess the bank’s Capital adequacy, Asset quality, Management, Earnings, Liquidity, and Sensitivity to market risk); identifies any violations of law; assesses compliance with the Bank Secrecy Act (BSA); and addresses compliance with consumer financial protection laws and regulations and the CRA. The report of examination also discusses significant deficiencies, violations, and excessive risks, and details corrective action to which the board or management has committed. Banking Institutions with at least $10bn of Assets For large banks and holding companies and those exhibiting a higher degree of risk, the amount of communication by the agencies with all levels of a bank’s and holding company’s corporate governance structure is expanded, with the frequency and scope of this contact determined based on the size or risk profile of the bank or holding company. This contact may include an on-going, on-site presence to enable monitoring by CPC and EIC teams. The assessors saw substantial evidence that regular contact between supervisor and senior management and the Board has increased significantly over the last few years. | ||||||||||||||||||||||||||||||
| EC8 | The supervisor communicates to the bank the findings of its on- and off-site supervisory analyses in a timely manner by means of written reports or through discussions or meetings with the bank’s management. The supervisor meets with the bank’s senior management and the Board to discuss the results of supervisory examinations and the external audits, as appropriate. The supervisor also meets separately with the bank’s independent Board members, as necessary. | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | All Banks Findings of supervisory activities are written in report format and delivered to and discussed with the bank’s and holding company’s management and the board of directors each examination cycle. The CFPB (for Banking Institutions with more than $10bn of assets and their affiliates) also issues supervisory letters for target reviews. The supervisory ratings assigned to the bank and holding company, as a result of supervisory activities, are also provided to the subject’s board of directors and senior management within the written examination reports. In cases where supervisory activity results in an assessment of the bank or holding company that is less than satisfactory, the bank’s or holding company’s board of directors and senior management are made aware of resulting regulatory restrictions where appropriate. Examples of these restrictions are constraints on severance payments made to IAPs, requirements regarding the appointment of new directors or senior executive officers, restrictions on dividend payments while the bank or holding company is in a problem condition, and prohibition of new branches. The manner by which agencies coordinate communication of examination activities and findings varies depending on the specific condition of the bank or holding company, structure, and in the case of state counterparts, geographic location. The assessors found evidence of joint letters being issued after examinations as well as separate letters from each agency involved in the examination. Occasionally this would also involve regulators arriving at different ratings for the same institution although these are rare. In terms of communication, the assessors noted that supervisors often conflated the board and senior management (a tendency the assessors also found in guidance) when in many cases the role of the two are different. | ||||||||||||||||||||||||||||||
| EC9 | The supervisor undertakes appropriate and timely follow-up to check that banks have addressed supervisory concerns or implemented requirements communicated to them. This includes early escalation to the appropriate level of the supervisory authority and to the bank’s Board if action points are not addressed in an adequate or timely manner. | ||||||||||||||||||||||||||||||
| Description and findings re EC9 | All Banks U.S. supervisory authorities undertake follow-up to verify that banks and holding companies have addressed supervisory concerns and/or implemented requirements communicated to them, including early escalation to the appropriate level of the supervisory authority and to the bank’s board of directors if action points are not addressed in an adequate or timely manner. For instance, through the supervision process, including onsite and off-site examination activities, staff may identify Matters Requiring Attention (MRAs), Matters Requiring Board Attentions (MRBAs) and Matters Requiring Immediate Attention (MRIAs) for institutions supervised by the Federal Reserve by banks and holding companies. MRAs/MRBAs/MRIAs are detailed in reports on examination and/or other communications to management and as warranted, boards of directors. Depending on the significance of the MRAs/MRBAs/MRIAs identified, an informal or formal enforcement action may be issued. MRAs/MRBAs/MRIAs and enforcement actions detail the weaknesses identified by the supervisors, the corrective actions that are expected to be taken by the company to address the concerns, and specific dates for completing the work [see also CP 8]. The assessors did see evidence of MRAs being outstanding for some time beyond the original date. Supervisory management was aware of a wider issue of aging of MRAs and had management information to monitor them. Management was also considering issuing further guidance to examination staff to reduce the number of out aged MRAs. The assessors also noted that where banks had a large number of MRAs, both the relative prioritization and any broader themes could be lost. | ||||||||||||||||||||||||||||||
| EC10 | The supervisor requires banks to notify it in advance of any substantive changes in their activities, structure and overall condition, or as soon as they become aware of any material adverse developments, including breach of legal or prudential requirements. | ||||||||||||||||||||||||||||||
| Description and findings re EC10 | All Banks U.S. FBAs have an expectation, but not a requirement, that banks notify them in advance of any substantive changes in their activities, structure and overall condition. In addition supervisory staff members discuss with bank management during periodic onsite and offsite monitoring financial trends and changes in bank operations, controls, and management, and monitor the approvals of banks’ boards of directors, investment committees, and business plans overall. They receive frequent, quarterly if not monthly, reports on business areas, new products. They also discuss with the internal audit departments changes in businesses. Some aspects are subject to statutory notification such as breaches of the BSA. In addition permitted bank and non-bank activities, as well as changes in ownership and/or control, are addressed by regulations published by a number of agencies, each focused on activities of banking institutions within each agency’s jurisdiction. In addition to the on-going communication, institutions are expected to notify supervisors promptly of material adverse developments. Periodic review of management reports by supervisors helps to ensure that communications of these events occurs on a timely basis. The Federal Reserve is the primary regulator of financial and bank holding companies, as well as state-chartered banks that are members of the Federal Reserve System. State member banks’ permissible activities may be enacted by the state laws of the states where the banks are incorporated and the states where they do business. Federal-level regulation for holding companies are documented in the FRB’s Regulation Y, which addresses changes in ownership and control of financial and bank holding companies as well as banks supervised by the Federal Reserve. Regulation H contains the requirements for state member banks, activities they may engage in, prompt corrective action for institutions where capital is inadequate, and financial record keeping and reporting requirements. National Bank permissible activities are discussed in “Activities Permissible for a National Bank, Cumulative,” an OCC publication. National banks must apply to the OCC for approval for certain activities, as well as for permission for activities not specifically approved by statute or OCC regulation. The FDIC publishes similar regulations for state-chartered banks that are not members of the Federal Reserve System. Banking Institutions with at least $50bn of Assets Regulation Y also contains restrictions on, and reporting requirements for, non-bank activities of a BHC and/or its subsidiaries as well as non-bank activities of foreign banks doing business in the U.S. Regulation Y also contains the requirements for large bank holding companies to submit annual capital plans for review. | ||||||||||||||||||||||||||||||
| EC11 | The supervisor may make use of independent third parties, such as auditors, provided there is a clear and detailed mandate for the work. However, the supervisor cannot outsource its prudential responsibilities to third parties. When using third parties, the supervisor assesses whether the output can be relied upon to the degree intended and takes into consideration the biases that may influence third parties. | ||||||||||||||||||||||||||||||
| Description and findings re EC11 | U.S. FBAs do not use independent third parties, such as auditors, to conduct their prudential supervisory activities of banks and holding companies. However, on an as needed basis or during periods where staffing needs to be augmented, the agencies may use external experts to perform specific tasks such as commercial credit reviews. Tasks and deliverables are outlined in a formal contract with a defined timeline. Further, these roles are typically filled with former supervisors or subject matter experts who are supervised by agency personnel. | ||||||||||||||||||||||||||||||
| EC12 | The supervisor has an adequate information system that facilitates the processing, monitoring and analysis of prudential information. The system aids the identification of areas requiring follow-up action. | ||||||||||||||||||||||||||||||
| Description and findings re EC12 | U.S. FBAs use a variety of information systems to facilitate the processing, monitoring, and analysis of prudential information. For example, the Federal Reserve System maintains a National Information Centre (NIC) database that contains financial, regulatory, and structure report data for supervised domestic financial companies and foreign financial institutions with a presence in the U.S., as well as their subsidiaries and branches around the world. In addition, the Federal Reserve uses C-SCAPE (Consolidated Supervision, Comparative Analysis, Planning and Execution) that is an application used to enhance the planning and execution of supervisory activities in the LISCC, LBOs, large FBOs, and financial market utility portfolios. C-SCAPE has facilitated the migration from point-in-time document-centric supervision to an integrated consolidated supervision workflow process. These new processes, with linked workflows across supervisory analysis, planning and execution, enable continuous updates of information provided via exams and continuous monitoring that, in turn, are reflected in the Risk Assessment and analyses of capital, asset quality, earnings, and liquidity (CAEL) financial factors. The updated information directly assists planning and prioritization of supervisory activities reflecting both “bottom-up” firm-specific assessments and follow-up activities, as well as “top-down” planning for macro-prudential and horizontal matters. Robust reporting and decision support tools enable real-time horizontal views of supervisory priorities, resource needs and risk assessments The OCC uses several tools to support on-going supervision and analytics of institutions regulated under its purview. Planning and prioritization of supervisory strategies and activities for large and/or complex institutions are developed, reviewed and approved via the Strategy Automation Tool (SAT), with the strategy artifact automatically stored in Examiner View (EV) or eDocs. Strategies for smaller institutions are entered directly into EV. When resources external to the business unit are needed to execute the strategy, those resources, including subject matter experts, are requested and filled through the National Resource Planning Tool (NRPT). Local and national resources are scheduled via the National Scheduling Application (NSA). Conducting and documenting the results of supervisory activities uses a combination of applications, including the Large Bank Institutional Database (LBID), eDocs and EV. These applications enable continuous updating and monitoring of an institution’s structure, risk profile, and supervisory ratings and issues. Specific exam areas are supported with specific tools to improve efficiency and promote consistent analysis and documentation, such as National Credit Tool, which is used in credit examinations. Additionally, on-going portfolio analysis is undertaken with the use of several analytical tools such as Financial Institution Data Retrieval System (FINDRS), Microsoft Reporting Services (SIS Reports), Data Analytics Reporting Tools (DART), Canary benchmark ratios and custom Tableau data visualizations. These tools, as well as a portfolio of standard analytic reports, facilitate supervisory risk assessments from a macro view of the institutions at several levels. | ||||||||||||||||||||||||||||||
| Additional criteria | |||||||||||||||||||||||||||||||
| AC1 | The supervisor has a framework for periodic independent review, for example by an internal audit function or third party assessor, of the adequacy and effectiveness of the range of its available supervisory tools and their use, and makes changes as appropriate. | ||||||||||||||||||||||||||||||
| Description and findings re AC1 | The Government Accountability Office is authorized to conduct periodic audits of the U.S. Federal banking agencies. Such audits may include a review or evaluation of the international regulation, supervision, and examination activities of the appropriate Federal banking agency, including the coordination of such activities with similar activities of regulatory authorities of a foreign government or international organization. Additionally, the Office of Inspector General (OIG) for each of the U.S. FBAs conducts internal audits of the agency. The OIG of the Department of the Treasury has audit authority with respect to the OCC. The purpose of the OIG is: to conduct and supervise audits and investigations relating to the programs and operations of the agencies; to provide leadership and coordination and recommend policies intended to promote economy, efficiency, and effectiveness in the administration of, and to prevent and detect fraud and abuse in, such programs and operations; and to provide a means to keep the head of the agency and the Congress fully informed and up-to-date about problems and deficiencies relating to the administration of such programs and operations and the necessity for and progress of corrective action. | ||||||||||||||||||||||||||||||
| Assessment of Principle 9 | Largely Compliant | ||||||||||||||||||||||||||||||
| Comments | The assessors found that the U.S. agencies have an array of tools and techniques to carry out their supervisory responsibilities and furthermore that they are also developing new techniques, such as stress testing and horizontal reviews. As noted in CP6, there is no explicit regulatory requirement for a bank to immediately report if they find that a major shareholder is no longer suitable. Nor did the assessors see any evidence of such reporting in the written documentation. The assessors recommend that such a supervisory requirement is introduced, with the aim to ensure that supervisors are promptly informed if a major shareholder is no longer suitable, since this might have a negative impact on the safety and soundness of the bank. Traditionally the U.S. approach has been dominated by on-site examinations and consequently (as noted in EC 10) there are few requirements for banks to report to the regulator. Although the assessors accepted that the extent of examination was a mitigant to an extent, the assessors viewed this omission as a cause for increasing concern. Not least because the assessors detected a noticeable shift towards more analysis (and, of course, stress testing takes up a significant level of resource). The assessors believe the absence of reporting poses three main risks:
The assessors also noted that there was room for improvement in the ways the regulators communicated with banks. The assessors would make four observations:
The assessors were pleased to see that management were trying to tackle several issues with MRAs (the assessors were shown some draft guidance to examiners drawn up by the OCC)—such as those which had been outstanding for some time and also where they had not been drafted clearly enough to begin with. The assessors would support further clarity in this area. The assessors noted that the supervisors were making greater efforts to collaborate, but the assessors did note that this could go further if planning cycles were aligned. At the moment with one regulator beginning their planning much earlier, it runs the risk that resources are committed before another regulator has completed their plan and made a bid for assistance. As noted in EC4, there is a greater emphasis on horizontal reviews and the assessors welcomed this development. However the assessors urged that supervisory expectations should be clearly established at the outset of such reviews. The absence of such clarity, runs the risk of regulatory creep as supervision is increasingly set against the best practice within a peer-group, which may mean an inadequate standard because the peer-group as a whole does not include a good exemplar. | ||||||||||||||||||||||||||||||
| Principle 10 | Supervisory reporting. The supervisor collects, reviews and analyses prudential reports and statistical returns39 from banks on both a solo and a consolidated basis, and independently verifies these reports through either on-site examinations or use of external experts. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The supervisor has the power40 to require banks to submit information, on both a solo and a consolidated basis, on their financial condition, performance, and risks, on demand and at regular intervals. These reports provide information such as on- and off-balance sheet assets and liabilities, profit and loss, capital adequacy, liquidity, large exposures, risk concentrations (including by economic sector, geography and currency), asset quality, loan loss provisioning, related party transactions, interest rate risk, and market risk. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | The FBAs have an extensive reporting framework and have the authority to require information needed for supervisory purposes at regular intervals and upon demand. The authority is broad, extending to affiliates of a bank or holding company and including information on a bank’s or holding company’s domestic and foreign operations. The FBAs collaborate on an interagency basis to maintain regulatory reports under the FFIEC. Banks and holding companies are required to submit information on their financial condition, performance and risks. Required reports provide information on balance sheet assets and liabilities, off-balance-sheet exposures, profit and loss, capital adequacy, asset quality, loan loss provisioning, affiliate and insider transactions. They also provide information allowing for an assessment of liquidity, large exposures, asset concentrations (including by economic sector, geography and currency), foreign exposures, interest rate risk and market risk. The volume of information reported has increased substantially since the crisis in the context of regulatory changes, enhanced supervisory oversight of capital and liquidity management, and supervisory stress testing. The framework for standard reporting is that individual banks must submit reports to the appropriate FBA on a consolidated basis (i.e. capturing the bank and its subsidiaries). There is no bank reporting on a solo (banking entity only) basis. Bank holding companies with consolidated assets of $500 million or more and savings and loan holding companies of all sizes must also submit financial and supervisory information on a consolidated basis. A parent holding company must submit reports that include financial statements on a “standalone” basis and also include information on related party transactions. Moreover, a report must be submitted regarding certain related party transactions between the holding company and affiliates. In addition, all other U.S. nonbank subsidiaries and foreign subsidiaries of holding companies are subject to reporting requirements that include financial and supervisory information if these entities exceed certain size thresholds. Under the final rules giving effect to the Volcker Rule, banking entities with significant trading operations are required to calculate and report metrics of their trading activity, by trading desk, to allow the FBAs to assess whether such trading activity is consistent with permitted trading activities in scope, type, and profile. The reporting requirements are being phased in based on the type and size of the entity’s trading activities. | ||||||||||||||||||||||||||||||
| EC2 | The supervisor provides reporting instructions that clearly describe the accounting standards to be used in preparing supervisory reports. Such standards are based on accounting principles and rules that are widely accepted internationally. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | By statute, banks and holding companies are required to apply accounting principles that are uniform and consistent with U.S. GAAP in preparing and submitting financial reports to FBAs (see 12 U.S.C. § 1831n(a)(2)). Although they have the power to adopt more stringent requirements, the FBAs have generally chosen to adopt U.S. GAAP for regulatory reporting. In certain instances, however, reports allow the alternative of International Financial Reporting Standards (IFRS) or national accounting standards, provided the alternative is no less stringent than U.S. GAAP. | ||||||||||||||||||||||||||||||
| EC3 | The supervisor requires banks to have sound governance structures and control processes for methodologies that produce valuations. The measurement of fair values maximizes the use of relevant and reliable inputs and is consistently applied for risk management and reporting purposes. The valuation framework and control procedures are subject to adequate independent validation and verification, either internally or by an external expert. The supervisor assesses whether the valuation used for regulatory purposes is reliable and prudent. Where the supervisor determines that valuations are not sufficiently prudent, the supervisor requires the bank to make adjustments to its reporting for capital adequacy or regulatory reporting purposes. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | The FBAs ensure that banks develop and maintain a strong governance framework, policies and controls that ensure the effectiveness of methodologies that produce valuations. The FBAs ensure reliability of the data by verifying that banks maintain a robust validation process commensurate with the risk in valuation methodologies and models and that the validation process is comprehensive, rigorous and effective. The assessors reviewed examples of supervisory reviews of valuation processes. In situations where the validation process is deemed unacceptable, the supervisor will require adjustments to the reported amounts. The FBAs review the effectiveness of the internal audit function and verify that the bank board annually reviews and approves model risk management policies. U.S. GAAP applies various measurement models to different categories of assets and liabilities. Certain assets and liabilities are reported on a historical cost or amortized cost basis, while the application of lower of cost or fair value and fair value accounting (with changes in fair value reported in earnings or other comprehensive income as appropriate) is required under other circumstances. For example, loans held for investment are accounted for at historical cost and loans held for sale are measured at the lower of cost or fair value (unless the fair value option is elected), whereas trading assets and liabilities are measured at fair value with changes in fair value included in earnings. A bank or holding company that elects the fair value option is expected to apply sound risk management and control practices to the assets and liabilities accounted for at fair value. The current use of the fair value option under U.S. GAAP is generally limited to larger, more complex banks and holding companies. | ||||||||||||||||||||||||||||||
| EC4 | The supervisor collects and analyses information from banks at a frequency commensurate with the nature of the information requested, and the risk profile and systemic importance of the bank. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | The FBAs collect and analyse information quarterly from all banks, bank holding companies with consolidated assets of $500 million or more,, and savings and loan holding companies of all sizes. All federal banks and savings and loan associations, regardless of size, need to file quarterly Call Reports. If the BHC is below the $500 million threshold, it submits a parent-only report on a semi-annual basis. In addition, reports from other subsidiaries, such as non-bank subsidiaries, in the BHC are required to be submitted either quarterly or annually, depending of the size and nature of the subsidiary. At large banks or holding companies where the FBAs have on-site examination teams, supervisors receive frequent risk management reports that allow them to monitor the entity’s condition and trends in key portfolios and risk segments. The FBAs may direct individual banks and holding companies to provide information on a more frequent basis, depending on their risk profile. For example, monthly reports on key risk areas may be required from banks and holding companies that are identified as posing special supervisory concerns or that are subject to certain enforcement actions. In some situations, daily reports may be received on key funding or liquidity issues; key institutions provided daily liquidity reports during the crisis and continue to do so. | ||||||||||||||||||||||||||||||
| EC5 | In order to make meaningful comparisons between banks and banking groups, the supervisor collects data from all banks and all relevant entities covered by consolidated supervision on a comparable basis and related to the same dates (stock data) and periods (flow data). | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The FBAs collect reports on the same dates for all banks on a quarterly basis and for all entities in the consolidated holding company. While the frequency may differ given the size and nature of the entity, the reporting dates are as of the calendar quarter end. Banks and holding companies are required to complete reports using a standard set of reporting instructions, thereby ensuring comparability of reported items between banks and holding companies. The FBAs work together to ensure, to the extent possible, that the information reported at the subsidiary level is comparable to information that is collected at the consolidated holding company level. In addition, any revisions to supplemental reports for other entities (e.g. a nonbank subsidiary report) are driven by changes made to the bank report and the holding company report, which helps ensure that comparable information is reported across the holding company. | ||||||||||||||||||||||||||||||
| EC6 | The supervisor has the power to request and receive any relevant information from banks, as well as any entities in the wider group, irrespective of their activities, where the supervisor believes that it is material to the condition of the bank or banking group, or to the assessment of the risks of the bank or banking group or is needed to support resolution planning. This includes internal management information. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | Collectively, the FBAs have broad statutory authority to obtain a wide array of information from supervised banks and holding companies, including financial data and information on their activities, operations, structure, corporate governance, risk management and other information needed by supervisors (see CP 1, EC 5). Banks and holding companies must provide supervisors with full and complete access to their books, records and employees (including directors); failure to do so can result in the imposition of administrative sanctions. These requirements extend to the foreign operations of U.S. banks and holding companies; however, the laws of foreign host countries may restrict the sharing of information with the FBAs. Under their statutory authorities, the FBAs have the power to request and receive any relevant information from banks and holding companies, irrespective of their activities, where the supervisor believes that it is material to their financial situation, or to the assessment of the risks of the bank or holding company. This includes internal management information (see e.g. 12 U.S.C. § 161(a) and (c)). Affiliates of banks and holding companies that may generally be exempt from reporting certain information can also be required to do so by their FBA. In addition, an agency may request information from the functional supervisor for entities it does not supervise, although this authority is limited by the requirement that the FBAs must rely to the fullest extent possible on the relevant functional supervisor (see e.g. 12 U.S.C. §§ 1831v and 1844(c)(2)(E)). | ||||||||||||||||||||||||||||||
| EC7 | The supervisor has the power to access41 all bank records for the furtherance of supervisory work. The supervisor also has similar access to the bank’s Board, management and staff, when required. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | The FBAs have the authority to review all books and records of a bank or holding company that are deemed necessary for supervisory purposes. The agencies have access to the bank’s or holding company’s board, management and staff when required to discuss supervisory matters. Furthermore, the agencies have the authority to require a bank or holding company to submit any information if there is a supervisory need, even when it would not be otherwise required to submit such information. | ||||||||||||||||||||||||||||||
| EC8 | The supervisor has a means of enforcing compliance with the requirement that the information be submitted on a timely and accurate basis. The supervisor determines-the appropriate level of the bank’s senior management is responsible for the accuracy of supervisory returns, imposes sanctions for misreporting and persistent errors, and requires that inaccurate information be amended. | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | Banks and holding companies are required by statute to comply with reporting requirements and information disclosure requests of FBAs. A failure to comply (including by submitting an untimely report or through misreporting or persistent errors) can provide the basis for informal or formal enforcement measures, including cease-and-desist proceedings and the imposition of a civil monetary penalty, against a bank or holding company and/or its institution-affiliated parties (IAPs). Under certain circumstances, a culpable IAP also may be subject to suspension and debarment. See 12 U.S.C. §§ 1817(a) and 1818(b) and (i). The agencies can require banks and holding companies to amend previously filed reports when material errors have occurred. The consolidated regulatory reports for banks and holding companies require attestation by the Chief Financial Officer (CFO) and bank-level regulatory reports also require attestation by three members of the board. Banks and holding companies that are also public companies are required to file reports with the SEC and banks that are required to file reports with their primary FBA, are required by the Sarbanes-Oxley Act of 2002 to obtain an annual audit of their financial statements and their internal controls over financial reporting. Public company officers must acknowledge in writing that they have evaluated the company’s internal financial controls and the Chief Executive Officer (CEO) and Chief Financial Officer (CFO) are required to sign and certify that they have reported to the independent auditors and to the audit committee all information regarding material weakness and significant deficiencies in internal controls that could adversely affect the company’s ability to provide accurate financial reports. See 15 U.S.C. § 7241. For banks with assets of $1 billion or more, the FDIC requires that the bank’s management annually prepare and submit to the appropriate FBA, and any appropriate state bank supervisor, a management report that includes (1) a statement of management’s responsibilities for preparing the bank’s annual financial statements, for establishing and maintaining an adequate internal control structure and procedures for financial reporting, and for complying with certain designated laws and regulations relating to safety and soundness; (2) an assessment by management of the bank’s compliance with such laws and regulations during the fiscal year; and (3) an assessment by management of the effectiveness of such internal control structure and procedures as of the end of the fiscal year. Banks with assets of $500 million or more, but less than $1 billion, must prepare and submit annually a management report that includes items (1) and (2). See 12 CFR 363.2. These particular requirements do not apply to holding companies, although statutes and regulations provide that, in certain instances, the audit requirements may be satisfied at the holding company level. | ||||||||||||||||||||||||||||||
| EC9 | The supervisor utilizes policies and procedures to determine the validity and integrity of supervisory information. This includes a program for the periodic verification of supervisory returns by means either of the supervisor’s own staff or of external experts.42 | ||||||||||||||||||||||||||||||
| Description and findings re EC9 | The FBAs review and verify regulatory reports during the course of on-site examinations of banks and holding companies. In addition, the FBAs utilize extensive off-site automated programs that provide validity and quality checks (“edits”) against the regulatory reports submitted. Some edits check the mathematical accuracy of certain areas of the regulatory reports (“validity edits”) while other edits review relationships between various aspects of the reports and certain qualitative measures (“quality edits”). The assessors saw examples of quality edits. All edit exceptions must either be corrected or explained. If an edit explanation provided by a bank or holding company is found to be unacceptable by the relevant FBA, additional investigative work is performed with that bank or holding company until the edit exception is resolved (sometimes resulting in amended reports). There cannot be any validity edit exceptions on the regulatory reports and all quality edit exceptions must be considered reasonable by the FBA before the report is accepted. The FBAs do not use external experts to verify supervisory returns. | ||||||||||||||||||||||||||||||
| EC10 | The supervisor clearly defines and documents the roles and responsibilities of external experts,43 including the scope of the work, when they are appointed to conduct supervisory tasks. The supervisor assesses the suitability of experts for the designated task(s) and the quality of the work and takes into consideration conflicts of interest that could influence the output/recommendations by external experts. External experts may be utilized for routine validation or to examine specific aspects of banks’ operations. | ||||||||||||||||||||||||||||||
| Description and findings re EC10 | The FBAs generally do not utilize external experts to perform supervisory tasks. However, on an as-needed basis or during periods where staffing needs to be augmented, the FBAs may use external experts to perform specific tasks such as commercial credit reviews. Tasks and deliverables are outlined in a formal contract with a defined timeline. Further, these roles are typically filled with former supervisors or subject matter experts who are supervised by agency personnel. | ||||||||||||||||||||||||||||||
| EC11 | See EC 10 above and CP 9 EC 11. The supervisor requires that external experts bring to its attention promptly any material shortcomings identified during the course of any work undertaken by them for supervisory purposes. | ||||||||||||||||||||||||||||||
| Description and findings re EC11 | When the FBAs engage consultants or external experts, such experts and consultants are under the direct supervision of on-site agency personnel and, as a result, their findings are promptly reported to the agencies. | ||||||||||||||||||||||||||||||
| EC12 | The supervisor has a process in place to periodically review the information collected to determine that it satisfies a supervisory need. | ||||||||||||||||||||||||||||||
| Description and findings re EC12 | The FBAs review all FFIEC reports for relevance on a periodic basis under the direction of the FFIEC’s Task Force of Reports. In addition, the Paperwork Reduction Act (PRA) requires periodic review of all regulatory reports and the Office of Management and Budget (OMB) must approve all reports for extensions of existing collections, as well as new and revised collections. See 44 U.S.C. §§ 3501-3521. The OMB is responsible for ensuring that regulations are based on sound analysis and that the information collected satisfies a supervisory need. This statutory review process predates the financial crisis. The FBAs conducted their most recent five-yearly review of data collected in the Call Report in November 2012. Information determined to be no longer necessary or appropriate as a result of this review will be eliminated after appropriate notice and comment pursuant to the PRA. In addition, the FFIEC and the FBAs are required to conduct a review of all their regulations to identify outdated, unnecessary or unduly burdensome regulations applicable to insured depository institutions. The FFIEC and the FBAs must conduct this review at least once every 10 years; the next review must be completed by December 31, 2016. | ||||||||||||||||||||||||||||||
| Assessment of Principle 10 | Compliant | ||||||||||||||||||||||||||||||
| Comments | The FBAs have a long-established and effective regulatory reporting framework, with the flexibility, demonstrated through the crisis, to expand reporting requirements in response to pressing supervisory needs. At the same time, reporting demands are subject to periodic public reviews of reporting burden and to information collection budgets in each agency. These are important disciplines to guard against redundant data items and information overreach; banks to which the assessors spoke expressed concern that some reporting requirements generate data of little use to the banks themselves or are not aligned with their way of conducting activities, requiring them to generate reports simply to satisfy supervisory needs. At the same time, cost-benefit analysis in this area can easily understate the safety-and-soundness benefits of supervisory access to timely and relevant data, which are extremely difficult to quantify. With the crisis passed, the FBAs are encouraged to review the level of granularity of data collected, particularly for stress testing and liquidity analysis purposes, to ensure that data continues to be needed at that level. The FBAs do not collect data from banks at the solo level (i.e. at the level of the bank excluding its subsidiaries). In principle, this would appear a significant deviation from CP 10; it means that supervisors and market participants may not have the information to test whether a bank is adequately capitalized on a stand-alone basis. However, the assessors understand that, in practice, this omission is not sufficiently material in its impact to warrant a lower rating for CP 10 under current circumstances. U.S. bank subsidiaries tend to be small relative to the parent bank and can only undertake limited activities that the bank itself could undertake in its own name. Nonetheless, the assessors recommend that future Core Principles assessments verify that these circumstances have continued to apply. Supervisors should closely monitor the development of banking groups and consider introducing solo level reporting if the number or size of bank subsidiaries were to expand or banking groups become less transparent. The assessors also note that the Basel capital framework applies at every tier within a banking group on a fully consolidated basis. | ||||||||||||||||||||||||||||||
| Principle 11 | Corrective and sanctioning powers of supervisors. The supervisor acts at an early stage to address unsafe and unsound practices or activities that could pose risks to banks or to the banking system. The supervisor has at its disposal an adequate range of supervisory tools to bring about timely corrective actions. This includes the ability to revoke the banking license or to recommend its revocation. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The supervisor raises supervisory concerns with the bank’s management or, where appropriate, the bank’s Board, at an early stage, and requires that these concerns be addressed in a timely manner. Where the supervisor requires the bank to take significant corrective actions, these are addressed in a written document to the bank’s Board. The supervisor requires the bank to submit regular written progress reports and checks that corrective actions are completed satisfactorily. The supervisor follows through conclusively and in a timely manner on matters that are identified. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | Generally, the FBAs identify problems or deficiencies at a bank or holding company during on-site examinations. Most problems or deficiencies are resolved informally during the course of the examination, when the bank or holding company immediately takes steps to correct or commits to promptly correct the problems or deficiencies and address the regulatory concerns. At the conclusion of the examination of a bank, supervisors send a written “Report of Examination” (ROE) to the bank for review by all directors and senior officers. The ROE assesses the condition of the bank’s capital, asset quality, management, earnings, liquidity and sensitivity to market risk (CAMELS); identifies violations of law; assesses compliance with the BSA; and addresses compliance with consumer laws and regulations, information technology, and the CRA. The narrative of the ROE also calls attention to “concerns” or matters that need attention (MRAs and MRIAs/MRBAs). For further discussion on MRAs, see CPs 8 and 9. (Example of an agency’s policy of communicating examination findings: The Federal Reserve’s 2013 supervisory letter “Supervisory Considerations for the Communication of Supervisory Findings”). Similar reports are issued after the inspection of holding companies. Some problems or deficiencies may not be satisfactorily addressed through the informal means mentioned above, especially if problems or deficiencies are serious, pervasive, or repeated. In such cases the supervisors may take supervisory actions (further described in ECs 2, 3 and 4 below). Generally, supervisory actions require a bank or holding company to take certain affirmative actions and make periodic (monthly or quarterly) written reports to the relevant agency (-ies) on the progress that the bank or holding company has made to address the deficiencies identified. Detailed policies and action plans with target dates may be requested from a bank or holding company, and supervisors will review the plan for sufficiency and examine progress against key milestone dates. | ||||||||||||||||||||||||||||||
| EC2 | The supervisor has available44 an appropriate range of supervisory tools for use when, in the supervisor’s judgment, a bank is not complying with laws, regulations or supervisory actions, is engaged in unsafe or unsound practices or in activities that could pose risks to the bank or the banking system, or when the interests of depositors are otherwise threatened. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The FBAs have a wide range of supervisory options when a bank or holding company is not complying with the laws, regulations or supervisory orders, or is engaged in an unsafe or unsound practice. The agencies may take prompt remedial action and impose penalties, including a divestiture of activities or control of an entity. The range of tools is applied in accordance with the gravity of a situation. Such action may include requiring the bank’s or holding company’s board of directors to adopt a resolution to cure the deficiencies, sign a commitment letter, develop and implement a safety and soundness plan, conform to institution-specific minimum capital ratios established by the agencies (applicable only to banks), or execute a memorandum of understanding with the supervisor. In the event that the problems are pervasive, repeated, unresolved by management, or otherwise of serious concern, the agencies may exercise their statutory enforcement authority by taking formal enforcement action. Such actions include (i) Formal or Written Agreements; (ii) Cease and Desist Orders; (iii) Safety and Soundness Orders; (iv) Capital Directives; (v) PCA Directives; (vi) Civil Money Penalty Assessments. FBAs may also take temporary injunctive action using a temporary C&D order under certain conditions. The federal enforcement statutes associated with such actions are the same for all of the agencies. In determining whether a formal enforcement action, as mandated by 12 U.S.C. 1818, is appropriate, the agency staffs consider all relevant factors, including the nature, severity and duration of the problem, the risks presented at the bank or holding company, the anticipated resources and actions necessary to resolve the problem, and the responsiveness of the directors and management, Under certain circumstance, the federal enforcement statutes require formal enforcement action, rather than giving the agency discretion to pursue a formal action. Formal enforcement actions are legally enforceable, remain in effect until modified or terminated, and must be publicly disclosed by the appropriate agency. All informal supervisory actions are entered into with the consent of the bank or holding company. Formal enforcement actions are generally issued with the consent of the bank or holding company. Should the bank or holding company decline to consent to a formal enforcement action, the agency may initiate a contested judicial proceeding to impose the formal action upon the institution. In cases where there is (i) an immediate threat to the viability of the bank or holding company or ongoing unsafe and unsound practices or (ii) the institution’s books and records are so incomplete or inaccurate that the agency is unable to determine the financial conditions of the institution, an agency may immediately issue a temporary order to cease and desist (notwithstanding the ongoing contested proceeding). | ||||||||||||||||||||||||||||||
| EC3 | The supervisor has the power to act where a bank falls below established regulatory threshold requirements, including prescribed regulatory ratios or measurements. The supervisor also has the power to intervene at an early stage to require a bank to take action to prevent it from reaching its regulatory threshold requirements. The supervisor has a range of options to address such scenarios. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | A PCA regime (the PCA statute at 12 U.S.C. § 1831 o.) applies to those instances in which a bank’s capital ratios fall below the stipulated minima. The regime encourages intervention at an early stage, also before the thresholds have been violated, to resolve issues and prevent further deterioration. For instance, any bank which is less than adequately capitalized cannot pay dividends and must submit a capital restoration plan that is acceptable to the supervisor. (See the description of the PCA in CP 16, EC1) The supervisor also have powers to act if a bank or holding company violates other regulatory threshold requirements, for instance on large exposures. Supervisors may also act if banks fall below the regulatory minima for liquidity. See CP 24. | ||||||||||||||||||||||||||||||
| EC4 | The supervisor has available a broad range of possible measures to address, at an early stage, such scenarios as described in essential criterion 2 above. These measures include the ability to require a bank to take timely corrective action or to impose sanctions expeditiously. In practice, the range of measures is applied in accordance with the gravity of a situation. The supervisor provides clear prudential objectives or sets out the actions to be taken, which may include restricting the current activities of the bank, imposing more stringent prudential limits and requirements, withholding approval of new activities or acquisitions, restricting or suspending payments to shareholders or share repurchases, restricting asset transfers, barring individuals from the banking sector, replacing or restricting the powers of managers, Board members or controlling owners, facilitating a takeover by or merger with a healthier institution, providing for the interim management of the bank, and revoking or recommending the revocation of the banking license. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | Possible remedial measures include restricting the current activities and operations of the bank or holding company; withholding or conditioning approval of new activities or acquisitions; restricting or suspending payments to shareholders or share repurchases; restricting asset transfers; barring individuals from banking; replacing or restricting the powers of managers, directors, or controlling owners; facilitating a takeover or merger; providing for the interim management of the bank or holding company ; revoking or recommending the revocation of the banking license; revoking membership in the Federal Reserve; and terminating deposit insurance. The FBAs may also restrict a bank or holding company’s growth; or require it to dispose of any loan or asset involved in the violation or unsafe or unsound practice; require it to employ qualified officers and employees; and take any other action that the agency deems appropriate. The provisions of formal enforcement actions may require the bank or holding company to stop certain action or to take affirmative action. It may be required to submit specific plans, policies or procedures. Common provisions require it to cure specified violations, correct risk management or board of directors’ oversight weaknesses, submit a plan to increase or maintain sufficient capital, provide for an adequate allowance for loan and lease losses, and restrict the payment of dividends. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor applies sanctions not only to the bank but, when and if necessary, also to management and/or the Board, or individuals therein. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | Remedial penalties and sanctions may be applied to the institution and, when appropriate to management, board members, employees, and other individuals who participate in the institution’s affairs (Institution-Affiliated Parties or IAPs). The supervisors may set provisions to limit the individual’s activities at the institution, or to take affirmative actions, or to make restitution or reimbursement to the institution. An agency may suspend or remove an IAP from the institution for violations of law or other misconduct and prohibit an IAP from further participation in the banking industry. An agency may assess civil monetary penalties against an IAP under the same circumstances as a civil monetary penalty against a bank. | ||||||||||||||||||||||||||||||
| EC6 | The supervisor has the power to take corrective actions, including ring-fencing of the bank from the actions of parent companies, subsidiaries, parallel-owned banking structures and other related entities in matters that could impair the safety and soundness of the bank or the banking system. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | The FBAs have the authority to impose conditions on the relationships between banks and any other entity, including a holding company, subsidiary, parallel owned banking organization, or other related company in order to prevent or address a threat to the safety and soundness of the bank. The agencies have broad powers to order remedial actions that can protect a bank from adverse actions by its holding company or affiliates. For example, remedial actions may limit or prohibit payments from the bank to its holding company or affiliates. Provisions of such enforcement actions may include restrictions on inter-corporate transactions, prohibitions on the holding company accepting payments from the bank, and requirements for the holding company to provide management and financial support to the bank (known as the Source of Strength doctrine as codified at 12 U.S.C. §1831o-1. | ||||||||||||||||||||||||||||||
| EC7 | The supervisor cooperates and collaborates with relevant authorities in deciding when and how to effect the orderly resolution of a problem bank situation (which could include closure, or assisting in restructuring, or merger with a stronger institution). | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | When a problem bank does not have the ability or resources to solve its deficiencies, the FBAs have authority to appoint a conservator or a receiver. The conservator takes full control of the bank and assumes the powers of shareholders and board of directors. The conservator may repudiate contracts and temporarily limit customer withdrawals and payments to creditors. If the bank returns to a safe and sound condition, the conservator may return control to the shareholders or prepare for a sale of the bank. In the case of a resolution the relevant supervisory agency (ies) of a bank would cooperate with the resolution agency, the FDIC, to ensure a smooth process. For instance, it would inform the FDIC at an early stage about impending problems that might lead to a bank’s failure. It would also provide the FDIC with supervisory information needed for the resolution. It could also, on behalf of the FDIC, conduct investigations on the bank post-resolution. | ||||||||||||||||||||||||||||||
| Additional criteria | |||||||||||||||||||||||||||||||
| AC1 | Laws or regulations guard against the supervisor unduly delaying appropriate corrective actions. | ||||||||||||||||||||||||||||||
| Description and findings re AC1 | The PCA statute and regulations require early intervention by supervisors to address capital shortfalls of banks. The capital levels triggering supervisory action are clear and objective, and many of the associated remedial measures are mandatory. Aside from the PCA, there are generally no specific statutory requirements that establish timetable for taking supervisory action. However, formal enforcement actions generally are implemented within a reasonable time frame. Moreover, formal enforcement actions and most other supervisory measures, such as MRAs and MRIAs, establish timeframes for each of the actionable articles in the enforcement action. Each FBA has instituted tracking of matters that a bank needs to address, whether as a result of MRAs, etc., set forth in exam reports or deadlines set in enforcement actions. For instance, the Federal Reserve has established a Performance Measurement Program that tracks the type of MRA/MRIA found in examinations on a quarterly basis and measures the response time for correction of such deficiencies. The agencies maintain a time limit of 45 days between the end of a supervisory full-scope examination and the sending of the Supervisory Letter to the bank, but this limit may be prolonged for various reasons in individual cases. | ||||||||||||||||||||||||||||||
| AC2 | When taking formal corrective action in relation to a bank, the supervisor informs the supervisor of non-bank related financial entities of its actions and, where appropriate, coordinates its actions with them. | ||||||||||||||||||||||||||||||
| Description and findings re AC2 | The “Policy Statement on Interagency Notification and Coordination of Enforcement Actions” discusses federal banking agency coordination. The U.S. FBAs work together to address supervisory concerns of common interest. Coordination with non-banking regulators on enforcement action s coordinated on a case-by- case basis, in particular when the enforcement action is to be published. The Federal Reserve, as the “umbrella supervisor” of holding companies of holding companies and their subsidiaries, relies on the federal and state supervisors of “functionally regulated” subsidiaries, such as broker dealers and insurance companies, to examine these companies and to take supervisory actions when appropriate. The Federal Reserve coordinates its actions and share information where appropriate with the FBAs and other agencies, foreign supervisors and sectoral regulators. Also, the FSOC could in certain circumstances be a forum for coordination and information-sharing when formal corrective action is being taken against a systemically important institution. | ||||||||||||||||||||||||||||||
| Assessment of principle 11 | Compliant | ||||||||||||||||||||||||||||||
| Comments | The authorities are recommended to consider implementing rules for promoting early action also for other issues than bank capital and liquidity. The advantages of a prompt correction regime are that it provides transparency to the supervisory process and to the expectations on the supervised institutions, while mitigating against forbearance. However, it is important that there is adequate flexibility in the regime since a too-rigid framework would not be able to deal with different situations. The assessors acknowledge that the U.S. legislation, regulations, and processes for taking supervisory action (informal or formal) are robust and have been further strengthened in recent years. For instance, the assessors noted earlier cases in which the escalation of supervisory measures, when warranted, took longer than appropriate given the severity of the deficiency at hand. However, in recent years there has been a clear reduction in such cases, reflecting the authorities’ new and more explicit rules and stricter implementation. The assessors recommend the authorities to continue on this path, for instance by setting even more explicit rules for the ageing of MRAs and MRIAs. The evolving practice of setting timelines for the completion of remedial actions, and requiring regular reporting of progress, is encouraged by the assessors. The assessors also encourage the implementation of planned OCC guidance on supervisory practices relating to MRAs The assessors saw ample evidence of both informal and formal enforcement actions undertaken by the FBAs. Subject to the comments above, the assessors found that the authorities do use the options available to make banks take remedial action and that the follow-up process is adequate. | ||||||||||||||||||||||||||||||
| Principle 12 | Consolidated supervision. An essential element of banking supervision is that the supervisor supervises the banking group on a consolidated basis, adequately monitoring and, as appropriate, applying prudential standards to all aspects of the business conducted by the banking group worldwide.45 | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The supervisor understands the overall structure of the banking group and is familiar with all the material activities (including non-banking activities) conducted by entities in the wider group, both domestic and cross-border. The supervisor understands and assesses how group-wide risks are managed and takes action when risks arising from the banking group and other entities in the wider group, in particular contagion and reputation risks, may jeopardize the safety and soundness of the bank and the banking system. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | The Federal Reserve is the consolidated supervisor for U.S. banking holding companies (BHCs)—including financial holding companies (FHCs)—and for savings and loans holding companies (SLHCs). The Federal Reserve achieves a comprehensive understanding of the overall structure of banking groups through the ongoing supervision process. The statutes require specific prior approval for holding company formation, acquisitions, and commencement of new activities. As a part of the approval process for these transactions, the Federal Reserve evaluates a banking group’s structure, material activities, and risk management programs. The Federal Reserve also relies on the relevant primary supervisors, functional regulators, and foreign supervisors for information and analysis about other entities within a holding company structure. Section 604 of the DFA makes it easier for the Federal Reserve to obtain information directly from BHC subsidiaries, including functionally regulated subsidiaries. The provision also grants the Federal Reserve examination authority over BHC subsidiaries, including functionally regulated subsidiaries, to inform itself of (1) the nature of the operations and financial condition of the BHC and the subsidiaries; (2) the financial, operational and other risks within the BHC system that may pose a threat to the safety and soundness of the BHC or any of its depository subsidiaries or the stability of the financial system of the U.S., and (3) the systems of the BHC for monitoring and controlling the foregoing risks. In exercising this authority, the Federal Reserve must rely to the fullest extent possible on examination reports prepared by a functional regulator and notify the functional regulator before conducting an examination of the functionally regulated subsidiary. Section 604 of the DFA repealed a provision of the GLB Act that barred the Federal Reserve from exercising enforcement or rulemaking authority over functionally regulated subsidiaries except in extraordinary circumstances. In conjunction with state bank supervisors, the U.S. FBAs have a number of formal and informal mechanisms to facilitate consolidated supervision. These mechanisms cover, among other things, the coordination of examinations, communication protocols for emergency situations, and information sharing related to electronic databases containing examination reports, financial records, and other supervisory information. In addition, functional regulators, such as the SEC, the CFTC, and state insurance supervisors exchange information with the FBAs related to securities and insurance companies in a holding company or a financial conglomerate that includes a bank. Normally, the FBAs would rely on information provided by the functional regulators before making their own requests. U.S. law authorizes the U.S. FBAs to exchange financial records, examination reports, and other information regarding banks and holding companies. In addition, structural changes have by themselves implied improved consolidated supervision. An increasing number of insurance companies have acquired thrifts, which means that the holding companies will be supervised by the Federal Reserve on a consolidated basis. Also, the scope of supervision of the largest groups has been broadened and examination teams now include, for instance, macroeconomic experts, IT experts and legal experts in addition to prudential supervisors. The stress-testing requirements for all holding companies having assets in excess of $50 bn, laid down in the DFA, apply on a consolidated basis and will increase supervisors’ understanding of the group’s risk profile. The Capital Plan requirements (2011) require large banks to submit for supervisors’ review a yearly capital plan on a consolidated basis, taking all material risks into account, The requirement in the Section 165 DFA that FBOs generally, with some exceptions, must form a holding company for their U.S. affiliates, has also strengthened consolidated supervision. | ||||||||||||||||||||||||||||||
| EC2 | The supervisor imposes prudential standards and collects and analyses financial and other information on a consolidated basis for the banking group, covering areas such as capital adequacy, liquidity, large exposures, and exposures to related parties, lending limits and group structure. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The Federal Reserve has established prudential standards to address a broad range of supervisory issues and concerns. These include, but are not limited to, standards to address:
The Federal Reserve imposes the prudential standards on capital adequacy, risk management, and risk-specific measures, the internal audit and controls measures, and the accounting and disclosures standards on a consolidated, group-wide basis. The Federal Reserve requires regular financial and organizational structure reporting by all holding companies. Holding companies having over $500 million in assets report financial data on a consolidated basis, while smaller holding companies provide parent-only financial statements which, when combined with bank financial reports, provide an approximate consolidated view. Organizational structure information is updated on an ongoing basis. Reported information is analyzed by the Federal Reserve in conjunction with regular supervisory activities and as part of formal off-site monitoring programs. | ||||||||||||||||||||||||||||||
| EC3 | The supervisor reviews whether the oversight of a bank’s foreign operations by management (of the parent bank or head office and, where relevant, the holding company) is adequate having regard to their risk profile and systemic importance and there is no hindrance in host countries for the parent bank to have access to all the material information from their foreign branches and subsidiaries. The supervisor also determines that banks’ policies and processes require the local management of any cross-border operations to have the necessary expertise to manage those operations in a safe and sound manner, and in compliance with supervisory and regulatory requirements. The home supervisor takes into account the effectiveness of supervision conducted in the host countries in which its banks have material operations. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | The Federal Reserve’s processes for understanding and assessing firm-wide legal and compliance risk management encompass both domestic and international operations. Under the Federal Reserve’s Regulation K (12 CFR part 211) (See also CP 15, EC 1), foreign branches and subsidiaries of U.S. banking groups must be managed to ensure their operations conform to high standards of banking and financial prudence and must make available to Federal Reserve examiners all information deemed necessary to determine compliance with U.S. banking laws. As part of the authorization process for foreign operations of U.S. banking groups, the applicant must describe any potential obstacles to providing necessary information to regulators and its parent and discuss how it will mitigate any such impediments. The U.S. FBAs assess the quality of supervision conducted in the countries in which its banks and holding companies seek to establish material operations. Once material operations are established, the FBAs informally evaluate host country supervisors through ongoing communication with host supervisors and evaluation and inspection of the cross-border establishments. The FBAs have implemented an enterprise-wide supervisory approach that cuts across legal entities. In carrying out this approach, the agencies evaluate the effectiveness of the bank’s and holding company’s policies, procedures, controls, management information systems (MIS) and risk management processes across the organization. This includes audit programs, internal monitoring reports, and review processes that provide the organization with input on the performance of local managers. An assessment of cross-border operations is incorporated into the evaluation of key corporate governance functions and primary firm-wide risk management and internal control functions, including legal and regulatory risk management. There are often issues unique to a bank’s or holding company’s international operations. For example, some host country legal and regulatory structures and supervisory approaches are fundamentally different from those in the U.S., which often requires the organization to devote additional resources to maintain expertise in local legal and regulatory requirements. In some instances, privacy concerns have led to limits on information that can be shared by a foreign office with its parent holding company. This can limit the parent holding company’s ability to exercise consolidated risk management on a global basis. In these cases, strong internal controls and audit processes are particularly important and hence enforced by the supervisors. For a holding company with international operations or risks, an assessment of cross- border operations is incorporated into the processes for developing an understanding and assessment of key corporate governance functions and primary firm-wide risk management and internal control functions. Any limits to the Federal Reserve’s ability to access information on host country operations or to engage in on-site activities is considered when assessing the appropriate extent of the organization’s activities in that jurisdiction. The U.S. FBAs review materials prepared by host country supervisors, including examination reports and assessments, and conduct ongoing communications with involved foreign and domestic supervisors regarding trends and assessment of cross-border operations. These continuous monitoring activities are supplemented, as appropriate, by examination activities to understand and assess the bank’s or holding company’s cross border strategy, activities, risks, trends, and legal entity structure and related governance, risk management, and internal controls. For example, in the case of large, complex banking organizations with foreign operations, OCC supervisors perform on-site inspections of high-risk foreign operations and analyze the macroeconomic and market risks in countries in which U.S. banks operate. | ||||||||||||||||||||||||||||||
| EC4 | The home supervisor visits the foreign offices periodically, the location and frequency being determined by the risk profile and systemic importance of the foreign operation. The supervisor meets the host supervisors during these visits. The supervisor has a policy for assessing whether it needs to conduct on-site examinations of a bank’s foreign operations, or require additional reporting, and has the power and resources to take those steps as and when appropriate. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | Statutory provisions expressly authorize examinations of and the submission of reports by regulated banks and their affiliates, including foreign offices and subsidiaries. A provision of the International Banking Act provides for communication and cooperation with foreign bank supervisors (see 12 U.S.C. §3109). As noted in EC 3, for holding companies with international operations or risks, the FBAs assess cross-border operations as part of their evaluation of key corporate governance functions and primary firm-wide risk management and internal control functions. Also, the U.S. FBAs’ formal strategies for the supervision of individual banks and holding companies revolve around assessments of risk, and control processes, including those of foreign operations. On-site work is performed where risks are greatest. When foreign offices are inspected, supervisors meet with host supervisors. Agencies have the ability to use a wide variety of approaches to supervise and have, for example, required special reports and audits of foreign offices. Additionally, the U.S. FBAs have worked for many years with counterparts from various countries to strengthen communication and cooperation as it relates to the supervision of banks and holding companies that operate across borders. These efforts have intensified in recent years and now take place in a variety of settings. In accordance with principles promulgated by the Financial Stability Board, the Federal Reserve participates with other U.S. and international supervisors in CMG meetings to enhance preparedness for the cross-border management and resolution of a failed global systemically important financial institution. The U.S. FBAs also participate in supervisory colleges with international supervisors. As discussed in Principle 13, the U.S. FBAs have formal information sharing arrangements with many supervisors. These arrangements set out essential elements in the areas of on-site inspections, ongoing coordination, and protection of information, and facilitate timely information sharing. Periodic visits are used to develop working relationships with many foreign supervisors. During these visits there are banking industry discussions and strategy sessions focusing on specific supervisory issues and initiatives. | ||||||||||||||||||||||||||||||
| EC5 | The supervisor reviews the main activities of parent companies, and of companies affiliated with the parent companies, that have a material impact on the safety and soundness of the bank and the banking group, and takes appropriate supervisory action. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | The U.S. FBAs have implemented a comprehensive supervisory framework that evaluates the risks that non-banking activities conducted by banks and holding companies may pose to the consolidated organization. The authority for this derives from the overarching duty of the agencies to protect the safety and soundness of banks (12 U.S.C. § 1831p-1), including through the imposition of prudential safeguards. Under the FDI Act, the FDIC is also responsible for developing an independent risk assessment of affiliates of the insured depository institution and to ensure that appropriate correct actions are taken to reduce unreasonable risk. The Federal Reserve has the authority and responsibility to understand and assess the risks that the parent holding company and its nonbank subsidiaries may pose to the whole organization, its depository institution subsidiaries, and to the U.S. financial system. However, there is no regulated framework on capital rules for corporate and insurance company SLHCs. Further, no regulatory and supervisory rules, guidance, and a formal rating system for SLHCs have been adopted, which hinders assessment of impact of the broader group on safety and soundness. Supervisory activities: For all significant nonbanking subsidiaries and nonbanking activities of the parent holding company, the Federal Reserve uses two mechanisms: continuous monitoring and periodic examination activities. These mechanisms are utilized to: (i) maintain an understanding of the unit’s operations, financial condition, inherent risks, and risk management practices, and (ii) assess the adequacy of risk management and internal controls, including those relating to compliance risk. Periodic testing examination activities may also be used to ensure that key risk management and internal control practices conform to legal requirements and internal policies. The examination activities are also used to understand and assess operations presenting a moderate or greater likelihood of significant negative impact to a subsidiary bank or the consolidated organization. Periodic examination testing will focus on controls for identifying, monitoring, and controlling these risks. | ||||||||||||||||||||||||||||||
| EC6 | The supervisor limits the range of activities the consolidated group may conduct and the locations in which activities can be conducted (including the closing of foreign offices) if it determines that:
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| Description and findings re EC6 | The U.S. FBAs have the power, at authorization or as a remedial measure, to limit the range of activities a bank or holding company may conduct and the locations in which activities may be conducted. In practice, the FBAs use this power to ensure that the consolidated organization’s activities are properly supervised and that the safety and soundness of the bank and holding company are not compromised. The assessors saw evidence on actions relating to item (a) but not to (b) or (c). According to the authorities there had been no need for such formal actions (in specific cases, informal measures were used to achieve adequate consolidated supervision. For example, supervisory information on the overseas entity was gathered through the parent company itself rather than from the foreign supervisor and the internal audit function of the banking group was given broader responsibilities vis-à-vis the affiliates by the supervisor). | ||||||||||||||||||||||||||||||
| EC7 | In addition to supervising on a consolidated basis, the responsible supervisor supervises individual banks in the group. The responsible supervisor supervises each bank on a stand-alone basis and understands its relationship with other members of the group.46 | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | Statutes authorize the relevant FBAs to examine and require reports from individual banks in the group. The U.S. FBAs have strong cooperative relationships with each other and with functional and foreign regulators. These relationships respect the statutory authorities and responsibilities of the respective supervisors and provide for appropriate information flows and coordination to enable each responsible bank supervisor to understand the bank’s relationship to the banking group. An important element of effective consolidated supervision is the supervision of individual banks within a banking organization. The FBAs each have specific bank supervision responsibilities that are carried out to ensure the safety and soundness of individual institutions and contribute to the understanding of a banking organization’s condition on a consolidated basis. Information sharing among domestic and international supervisors, consistent with applicable law and the jurisdiction of each supervisor, is essential to ensure that a bank’s and holding company’s global activities are well understood. These concepts underlie the provisions of the DFA and the GLB Act that govern the interaction between the Federal Reserve as consolidated supervisor, and the other primary federal banking supervisors. The U.S. FBAs assist each other by sharing pertinent information to the extent permissible. This includes information regarding the financial condition, risk management policies, and operations of a bank and holding company that may have a material impact on the bank subsidiaries. The U.S. FBAs also consider transactions or relationships between the bank and its affiliates. | ||||||||||||||||||||||||||||||
| Additional criteria | |||||||||||||||||||||||||||||||
| AC1 | For countries which allow corporate ownership of banks, the supervisor has the power to establish and enforce fit and proper standards for owners and senior management of parent companies. | ||||||||||||||||||||||||||||||
| Description and findings re AC1 | Only companies that are regulated BHCs may hold controlling interests in banks, and their managerial resources and integrity must be taken into account in the authorization and approval process (12 U.S.C. § 1842(c)(5)). Management also is evaluated in ongoing supervision. Companies that are not BHCs may hold non-controlling interests in banks. For this ownership structure, the approval process includes an investigation of the competence, experience, integrity, and financial ability of each person or entity who will have an ownership stake (12 U.S.C. § 1817(j); 12 CFR 225.43(f) and (g)). The U.S. FBAs have authority to remove or prohibit participation in the affairs of a bank if the statutory requirements in the Federal Deposit Insurance Act are met (see 12 U.S.C. §§1813(u) and 1818(e)). Rulemaking and supervisory guidance/procedures are under development to provide additional detail around the supervision of commercial SLHCs. These organizations are principally engaged in either commercial activities (such as manufacturing or merchandising) or activities not specifically permissible for FHCs (such as real estate development). See SR letter 11-11. Refer also to the lack of regulations and supervisory powers on SHLCs mentioned in EC 5 above. | ||||||||||||||||||||||||||||||
| Assessment of Principle 12 | Largely compliant | ||||||||||||||||||||||||||||||
| Comments | A lack of full compliance with this principle is based on the absence of a capital rule for corporate and insurance company SLHCs, and on the fact that regulatory and supervisory rules, guidance, and a formal rating system for SLHCs have not been adopted. Capital standards are not required at the diversified financial group level under the Basel capital framework (which are to be calculated at the banking holding group level and banking group level), however the lack of an established supervisory assessment framework will likely hamper the supervisors in reviewing and taking action at the holding company (SHLC) level. As noted in CP 10, the FBAs do not collect data from banks at the solo level (i.e. at the level of the bank excluding its subsidiaries). The assessors are satisfied; however, that in practice this omission has no prudential significance under the current circumstances as U.S. bank subsidiaries tend to be small relative to the parent bank and can only undertake activities that the bank itself could undertake in its own name. | ||||||||||||||||||||||||||||||
| Principle 13 | Home-host relationships. Home and host supervisors of cross-border banking groups share information and cooperate for effective supervision of the group and group entities, and effective handling of crisis situations. Supervisors require the local operations of foreign banks to be conducted to the same standards as those required of domestic banks. | ||||||||||||||||||||||||||||||
| Essential criteria | |||||||||||||||||||||||||||||||
| EC1 | The home supervisor establishes bank-specific supervisory colleges for banking groups with material cross-border operations to enhance its effective oversight, taking into account the risk profile and systemic importance of the banking group and the corresponding needs of its supervisors. In its broadest sense, the host supervisor who has a relevant subsidiary or a significant branch in its jurisdiction and who, therefore, has a shared interest in the effective supervisory oversight of the banking group, is included in the college. The structure of the college reflects the nature of the banking group and the needs of its supervisors. | ||||||||||||||||||||||||||||||
| Description and findings re EC1 | The U.S. FBAs have established supervisory colleges for U.S. banking groups that have material cross-border operations. The U.S. FBAs have policies and guidelines in place for determining the appropriate members of supervisory colleges, and those policies and guidelines take into account the size of the operations in the foreign jurisdiction, their significance to the group as a whole and to the host market, and the needs of the supervisors. The Federal Reserve and OCC co-chair supervisory colleges for several U.S. banking groups with significant foreign operations. The colleges hold meetings at least annually, with conference calls between meetings to supplement communications. Where the size and scope of the bank’s operations warrant it, the U.S. convenes both core and general college meetings. Those participants with whom the Federal Reserve and OCC do not have standing information-sharing arrangements participate on the basis of ad hoc confidentiality undertakings. A college meeting will generally include the following elements: meetings with the bank officials in which host supervisors can raise questions and concerns, sessions in which Federal Reserve/OCC present to host supervisors a high-level supervisory assessment of the bank’s risk profile and its risk management and internal audit functions, and sessions in which host supervisors present information about developments in their jurisdictions. The assessors saw evidence of general documentation about FBAs participation in supervisory colleges. | ||||||||||||||||||||||||||||||
| EC2 | Home and host supervisors share appropriate information on a timely basis in line with their respective roles and responsibilities, both bilaterally and through colleges. This includes information both on the material risks and risk management practices of the banking group47 and on the supervisors’ assessments of the safety and soundness of the relevant entity under their jurisdiction. Informal or formal arrangements (such as memoranda of understanding) are in place to enable the exchange of confidential information. | ||||||||||||||||||||||||||||||
| Description and findings re EC2 | The U.S. FBAs share information bilaterally with home and host supervisors, understanding arrangements, such as memoranda of understanding (MoUs) and statements of cooperation (SOCs) (There are no legal differences between MOUs and SOCs), and in response to requests on a case-by-case basis. As noted in EC 1, the U.S. FBAs also share information in supervisory colleges. On a case-by-case basis, the U.S. FBAs share information with foreign supervisors that have a legitimate supervisory need for the information and agree to keep it confidential. U.S. FBAs provide adequate and timely data and information relevant to host country supervisors about U.S. banks and holding companies, including any significant issues of a supervisory nature, to enable the host authority to supervise the overseas operations of the U.S. banks effectively and appropriately. The U.S. FBAs have ongoing contact with supervisors in other countries in which U.S. banks have material operations. Information sharing by the U.S. FBAs as both home and host supervisors involves sharing significant supervisory concerns and supervisory documents; providing information to assist with the authorization process and with investigations; discussing and coordinating supervisory plans and strategies; managing and participating in bilateral and multilateral meetings in the U.S. and overseas; developing joint enforcement actions when warranted; and participating in supervisory colleges to focus on a specific bank, holding company or supervisory issue. Additionally, U.S. FBAs periodically visit foreign supervisory authorities to discuss supervisory issues. The U.S. FBAs provide relevant information on U.S. banks and holding companies to host supervisors in response to specific requests regarding their supervision and provide information on significant problems that might have a material effect on the subsidiaries or branches in the host country. Information sharing on a home to host basis is also provided for in MoUs and similar arrangements. These arrangements provide for cooperation during the licensing process, in the supervision of ongoing activities, and in the handling of problem banks. U.S. FBAs endeavor to inform host country supervisors in a timely manner about events that could endanger the stability of cross-border establishments in the host country. The U.S. FBAs also inform host country supervisors when administrative penalties have been imposed or any other formal enforcement action has been taken against a U.S. bank or holding company if the agencies believe such information will be important to the host country supervisor as it may relate to the cross-border operations in that country. As host country supervisors, the U.S. FBAs cooperate with the home country supervisors of foreign banking organizations (FBOs) with U.S. banking operations in order to facilitate the consolidated supervision activities of those supervisors. Under the FBO Supervision Program, the Federal Reserve and the OCC routinely provide copies of essential supervisory products to home country supervisors. This includes an annual assessment of the combined U.S. operations of the FBO, which contains a supervisory rating, summary examination and supervisory findings along with details of areas requiring management attention, and notice of any proposed or pending formal or informal supervisory action as well as a copy of the notification to the head office of the FBO’s Strength-of-Support Assessment (SOSA) ranking). The SOSA is an assessment by the U.S. supervisor of the foreign parent/head office’s ability to support its U.S. operations. Where specifically requested by the home country supervisor, copies of examination reports of the U.S. operations of the FBOs may be provided to the home country supervisor. Similarly, the U.S. FBAs communicate with home country supervisors on subsidiaries of foreign banks and banking organizations. The U.S. FBAs will apprise home supervisors of significant concerns and impending supervisory actions. International cooperation would be further strengthened if state supervisory agencies consulted fully, in all cases, with the FBAs and foreign supervisors on impending enforcement actions. The assessors were made aware of circumstances where this was not the case. Information sharing through MoUs, SOCs or similar arrangements has become increasingly common. Today, U.S. FBAs have joint (and, in certain cases, individual) information sharing arrangements in place with banking supervisors in many foreign jurisdictions. These arrangements, while not legally binding, broadly govern information access and information sharing between supervisors acting in a home and host capacity. These arrangements generally cover those elements set forth in the Basel Committee’s paper “Essential elements of a statement of cooperation between banking supervisors” (May, 2001). U.S. FBAs are authorized to share relevant supervisory information with foreign banking supervisors even in the absence of a formal arrangement such as a MoU. In practice the U.S. FBAs share significant information with foreign supervisors whether the U.S. FBAs act in a home or host capacity. All sharing is subject to certain statutory requirements including those relating to the ability of the foreign bank supervisor to maintain the confidentiality of information provided to it. In appropriate cases the U.S. FBAs also have the authority to share information with financial supervisors other than bank supervisors (see 12 U.S.C. 1817(a)(2)(C)(iii)). Information sharing on risk management practices and supervisory concerns varies across different home regulators. This can result in incomplete cooperation or release of key regulatory documents such as annual assessment letters of foreign banking organizations conducted by home country regulators. In such cases, the supervisors may require the banks to restrict their activities in the concerned country. | ||||||||||||||||||||||||||||||
| EC3 | Home and host supervisors coordinate and plan supervisory activities or undertake collaborative work if common areas of interest are identified in order to improve the effectiveness and efficiency of supervision of cross-border banking groups. | ||||||||||||||||||||||||||||||
| Description and findings re EC3 | Under the statutory authority that allows sharing confidential supervisory information with foreign bank regulators (see EC 1), the U.S. FBAs coordinate supervisory activities with host and home supervisors to improve the effectiveness and efficiency of supervision. As noted in the response to EC 2, the U.S. FBAs regularly share significant supervisory concerns and related supervisory documents; discuss and coordinate supervisory plans and strategies with foreign supervisors; and manage and participate in bilateral and multilateral meetings in the U.S. and overseas, such as supervisory colleges and CMGs. Additionally, U.S. FBAs periodically visit foreign supervisory authorities to discuss supervisory issues. As host country supervisors, the U.S. FBAs cooperate with the home country supervisors of FBOs with U.S. banking operations in order to facilitate the consolidated supervision activities of those supervisors. This might include a home country supervisor conducting a review at the U.S. operations of an FBO or the participation of a home country supervisor in examination activities conducted by the U.S. supervisors at an FBO’s U.S. operations. Similarly, as home country supervisors, the U.S. FBAs regularly conduct examinations of the foreign operations of banks and BHCs in coordination with host country supervisors. The U.S. FBAs communicate with home country supervisors on subsidiaries of foreign banks and banking organizations. The U.S. FBAs will apprise home supervisors of significant concerns and impending supervisory actions, and will provide reports of examination upon request. | ||||||||||||||||||||||||||||||
| EC4 | The home supervisor develops an agreed communication strategy with the relevant host supervisors. The scope and nature of the strategy reflects the risk profile and systemic importance of the cross-border operations of the bank or banking group. Home and host supervisors also agree on the communication of views and outcomes of joint activities and college meetings to banks, where appropriate, to ensure consistency of messages on group-wide issues. | ||||||||||||||||||||||||||||||
| Description and findings re EC4 | In addition to the MoUs and SOCs described above, the U.S. FBAs have established ongoing information sharing mechanisms and regularly scheduled meetings and conference calls as part of their communication strategies for banking groups for which such enhanced cooperation is appropriate. The U.S. FBAs communicate with foreign supervisors through formal processes (i.e., MOUs, SOCs, supervisory colleges) and informal processes (e.g., ad hoc conference calls, email). Ongoing communication between home and host supervisors and with supervised banking organizations is a fundamental aspect of the supervisory process. For example, the U.S. supervisors hold periodic meetings with host supervisors to share information as applicable on home country risk management practices and models that may be employed in host country entities of the globally supervised banks and holding companies. | ||||||||||||||||||||||||||||||
| EC5 | Where appropriate, due to the bank’s risk profile and systemic importance, the home supervisor, working with its national resolution authorities, develops a framework for cross-border crisis cooperation and coordination among the relevant home and host authorities. The relevant authorities share information on crisis preparations from an early stage in a way that does not materially compromise the prospect of a successful resolution and subject to the application of rules on confidentiality. | ||||||||||||||||||||||||||||||
| Description and findings re EC5 | With reference to cross-border cooperation for crisis preparation, CMGs have been established for the largest, most systemic U.S. banking groups and the U.S. FBAs are in the process of completing cooperation agreements (COAGs) that will govern the activities and information sharing in each CMG. The U.S. FBAs participate as home and host authorities of firms designated as global systemically important financial institutions by the Financial Stability Board in numerous firm-specific CMGs for the purposes of developing crisis management strategies and resolution plans for such firms. | ||||||||||||||||||||||||||||||
| EC6 | Where appropriate, due to the bank’s risk profile and systemic importance, the home supervisor, working with its national resolution authorities and relevant host authorities, develops a group resolution plan. The relevant authorities share any information necessary for the development and maintenance of a credible resolution plan. Supervisors also alert and consult relevant authorities and supervisors (both home and host) promptly when taking any recovery and resolution measures. | ||||||||||||||||||||||||||||||
| Description and findings re EC6 | The U.S. FBAs participate as home and host authorities of firms designated as global systemically important financial institutions by the Financial Stability Board in numerous firm-specific CMGs for the purposes of developing crisis management strategies and resolution plans for such firms. The U.S. FBAs also participate as home and host authorities in supervisory colleges established for numerous banking institutions at which recovery and resolution plans created by those institutions are reviewed. | ||||||||||||||||||||||||||||||
| EC7 | The host supervisor’s national laws or regulations require that the cross-border operations of foreign banks are subject to prudential, inspection and regulatory reporting requirements similar to those for domestic banks. | ||||||||||||||||||||||||||||||
| Description and findings re EC7 | The U.S. operations of foreign banks are subject to prudential, inspection, and regulatory reporting requirements similar to those applicable to domestic banks. In general, these requirements can be found in the statutes and regulations applicable to domestic banks and in the International Banking Act (IBA), 12 U.S.C. § 3101 et seq, and its implementing regulations, see 12 CFR part 211, subpart B and 12 CFR part 28, subpart B. The IBA establishes a framework under which “national treatment” is afforded to foreign banks doing a banking business in the U.S., which means that foreign banks are generally accorded parity of treatment with U.S. banking organizations. Apart from branches and agencies, foreign banks may choose to establish banking subsidiaries under either a federal or state license. In addition, foreign banks are subject to the BHC Act, in the same way as a U.S. banking organization. U.S. savings associations owned or controlled by foreign banks are subject to the same requirements and treatment as U.S. savings associations owned by U.S. SLHCs. In February 2014 the Federal Reserve introduced enhanced prudential standards for FBOs (see 12 CFR part 252) as required in Section 165 of DFA. For a foreign banking organization with total consolidated assets of $50 billion or more, the final rule implements enhanced risk-based and leverage capital requirements, liquidity requirements, risk-management requirements, stress testing requirements, and the debt-to-equity limit for those companies that the FSOC has determined pose a potentially grave threat to the financial stability of the U.S.. In addition, it requires foreign banking organizations with U.S. non-branch assets of $50 billion or more to form a U.S. intermediate holding company and imposes enhanced risk-based and leverage capital requirements, liquidity requirements, risk-management requirements, and stress-testing requirements on the U.S. intermediate holding company. The final rule also establishes a risk-committee requirement for publicly traded foreign banking organizations with total consolidated assets of $10 billion or more and implements stress-testing requirements for foreign banking organizations and foreign savings and loan holding companies with total consolidated assets of more than $10 billion. Foreign banking organizations with U.S. non-branch assets of $50 billion or more are large, complex, and interconnected institutions, and generally have a U.S. risk profile similar to U.S. bank holding companies of total consolidated assets of $50 billion or more. The U.S. intermediate holding company requirement provides for consistent application of capital, liquidity, and other prudential requirements across the U.S. non-branch operations of the foreign banking organization and a single nexus for risk management of those U.S. non-branch operations, facilitating application of the mandatory enhanced prudential standards, increasing the safety and soundness of and providing for consolidated supervision of these operations. As noted, the IBA establishes a framework under which “national treatment” is afforded to foreign banks doing business in the U.S. However, a number of regulations do not apply to foreign banking organizations that do not have retail banking operations. The Federal Reserve’s CA letter 04-3 and the OCC’s Federal Branches and Agencies Supervision Handbook provide guidance for assessing whether a consumer compliance or CRA examination of an FBO is necessary (see 12 CFR 228.11(c)(3)). These assessments are conducted according to the frequencies mandated in the OCC’s Bank Supervision Process Handbook and the Federal Reserve’s CA letter 03-12. Where foreign banking organizations own and/or control subsidiary U.S. savings associations, those savings associations are subject to the same requirements and treatment as domestically held savings associations. Liquidity rules for branches to foreign banks apply a 15-day run-off criterion, versus the 30-day period for U.S. banks. Also, some States apply an asset maintenance rule for foreign branches, i.e. the branch must hold a certain portion of its assets in qualified U.S. assets. | ||||||||||||||||||||||||||||||
| EC8 | The home supervisor is given on-site access to local offices and subsidiaries of a banking group in order to facilitate their assessment of the group’s safety and soundness and compliance with customer due diligence requirements. The home supervisor informs host supervisors of intended visits to local offices and subsidiaries of banking groups. | ||||||||||||||||||||||||||||||
| Description and findings re EC8 | Foreign home supervisors may conduct examinations of U.S. operations of their banks and will generally have access to all relevant information, including information necessary to assess safety and soundness and compliance with customer due diligence requirements. Before conducting on-site examinations in the U.S., foreign supervisors should contact the relevant U.S. FBAs and the state banking authority if the operations to be examined are state-chartered or state-licensed. With prior arrangement, foreign supervisors typically may conduct their on-site examinations without being accompanied by representatives of the U.S. FBAs. Note, however, there may be state laws (e.g. FLA.STAT. 655.059 (2007)) that limit access to certain types of information at state-licensed entities. In general, the U.S. FBAs expect to be permitted on-site access to foreign offices and subsidiaries of a U.S. bank and holding company’s foreign operations in order to facilitate their assessment of the bank and holding company’s safety and soundness and compliance with KYC requirements. The U.S. FBAs inform host supervisors in advance of intended visits to foreign offices and subsidiaries. MOUs and SOCs generally contain provisions regarding on-site examinations. | ||||||||||||||||||||||||||||||
| EC9 | The host supervisor supervises booking offices in a manner consistent with internationally agreed standards. The supervisor does not permit shell banks or the continued operation of shell banks. | ||||||||||||||||||||||||||||||
| Description and findings re EC9 | Shell banks are not permitted under U.S. law, nor may U.S. banks establish correspondent accounts for foreign shell banks. In addition, foreign banks may not use their U.S. branches or agencies to manage types of activities through offshore offices that could not be managed by a U.S. bank at its foreign branches or subsidiaries. Banks also must take reasonable steps to ensure that any correspondent account established, maintained, administered, or managed in the U.S. for a foreign bank is not being used by that foreign bank to provide banking services indirectly to foreign shell banks, i.e., that the U.S. correspondent bank of the foreign bank does not in turn give a foreign shell bank the ability to access the U.S. correspondent account through its account. A bank is required to terminate immediately any account that it knows to be the account of a foreign shell bank or that it knows is being used indirectly by a foreign shell bank. Recent amendments to the Bank Secrecy Act (BSA) prohibit U.S. banks from establishing, maintaining, administering or managing a correspondent account in the U.S. for any foreign shell bank other than a regulated affiliate of a U.S. or foreign bank. See 31 CFR 103.177 As host supervisors the FBAs supervise booking offices in a manner consistent with internationally agreed standards. | ||||||||||||||||||||||||||||||
| EC10 | A supervisor that takes consequential action on the basis of information received from another supervisor consults with that supervisor, to the extent possible, before taking such action. | ||||||||||||||||||||||||||||||
| Description and findings re EC10 | As a general matter, the U.S. FBAs do not take action on the basis of information received from another supervisor without independently confirming the information and consulting with the providing supervisor, to the extent possible, before taking action. Effective cross-border supervision relies on clear, open communication between home and host supervisors. This is particularly the case where a banking supervisor contacts a supervisor in another country about significant or serious (including criminal) supervisory issues requiring attention. By the very nature of U.S. federal (and state) banking supervision, the relevant agencies work within a communication web that demands continuous coordination and consideration. The same methodology applies with cross-border information exchanges and requests for action or opinions. In such cases, the U.S. FBAs confer at the appropriate level and to the appropriate extent with the foreign supervisor before taking any action. See Federal Reserve AD letter 03-27/SR letter 01-21/AD letter 01-3; and OCC’s PPM 5500-1 (Rev). Notwithstanding the above, the FBAs will, and have the powers to, take action without prior consultation if the situation is deemed urgent. | ||||||||||||||||||||||||||||||
| Assessment of Principle 13 | Compliant | ||||||||||||||||||||||||||||||
| Comments | Reflecting the large cross-border activities of U.S. banks abroad, and of foreign banking groups in the U.S., there exist a comprehensive framework of policies and processes for co-operation and exchange of information between the FBAs and foreign supervisory authorities. This is currently being strengthened by the work in supervisory colleges and in CMGs. The assessors encourage the authorities to establish agreements with their foreign counterparts on a framework of communication strategies, especially for crisis situations International cooperation would be further strengthened if state supervisory agencies consulted fully, in all cases, with the FBAs and foreign supervisors on impending enforcement actions. The assessors were made aware of circumstances where this was not the case. Although this is a clear deficiency in cooperation arrangements, the assessors did not judge it as sufficient to lower the “Compliant” rating for CP 13, but improvements in such consultations should be a high priority. There remain some instances in which specific rules apply to foreign institutions, such as the shorter run-off period for foreign branches in the liquidity, asset maintenance requirements for branches and requirements on large FBOs to set up intermediate U.S. holding companies. The mandate of the BCP assessment is limited to ensure that prudential rules and supervision are applied to ensure a minimum level of safety and soundness of banks. The assessors find that these rules are aimed to obtain such effect. The BCP mandate and assessment and do not include a judgment of level playing field issues. | ||||||||||||||||||||||||||||||
| Principle 1 | Responsibilities, objectives and powers. An effective system of banking supervision has clear responsibilities and objectives for each authority involved in the supervision of banks and banking groups.20 A suitable legal framework for banking supervision is in place to provide each responsible authority with the necessary legal powers to authorize banks, conduct ongoing supervision, address compliance with laws and undertake timely corrective actions to address safety and soundness concerns.21 |
| Essential criteria | |
| EC1 | The responsibilities and objectives of each of the authorities involved in banking supervision22 are clearly defined in legislation and publicly disclosed. Where more than one authority is responsible for supervising the banking system, a credible and publicly available framework is in place to avoid regulatory and supervisory gaps. |
| Description and findings re EC1 | As discussed more fully in CP 5, the United States operates under a “dual banking system” under which a bank may choose to be chartered by the federal government or by a state. Each U.S. bank, whether chartered under federal or state law, is subject to regulation, supervision and examination by a primary federal banking agency (FBA), irrespective of whether it is part of a broader organization. Following the DFA reforms, the division of responsibilities for the FBAs are:
In addition, the FDIC has the authority to examine, for deposit insurance purposes, any bank, either directly or in cooperation with state banking agencies or other FBAs. The Federal Reserve has responsibility for supervision of bank holding companies and savings and loan holding companies, as well as for certain nonbank financial companies designated by the FSOC, which is discussed below. The Federal Reserve also has broad supervisory oversight over the U.S. banking operations of foreign banking organizations, but relies on the OCC or state banking agencies, as appropriate, to conduct examinations and supervision. In effect, then, each domestic bank has at least two regulators. For example, an insured national bank that is part of a Bank Holding Company (BHC) will be subject to supervision by the OCC, the Federal Reserve and the FDIC. If the bank has assets above $10 billion, it and its affiliates will also by overseen by the Consumer Financial Protection Bureau (CFPB) with respect to compliance with certain consumer financial protection statutes (see below). Each FBA operates pursuant to an express statutory grant of authority. In addition, agencies are mandated to administer various specific statutes that contain implicit or explicit goals (e.g., related to fair lending, community reinvestment, or bank secrecy and anti-money laundering/counter terrorist financing). FBAs also exercise competition authority powers with respect to bank mergers, using Department of Justice criteria. Legislation creating the agencies does not contain explicit and clear statements of mission or mandate. However, the substantive requirements imposed on agencies by statute provide the basis for the agencies’ publicly reported and longstanding objectives and responsibilities. State supervisory agencies also operate pursuant to an express statutory grant of authority. These agencies are outside the scope of this BCP assessment (as is the CFPB). However, the assessors did meet with state supervisory agencies and their representatives to understand the mechanisms in place to coordinate and collaborate with their federal counterparts. The DFA resulted in significant changes to the U.S. regulatory structure. The changes included dissolution of the Office of Thrift Supervision (OTS) and the creation of two new bodies—an independent Consumer Financial Protection Bureau (CFPB) within and funded by the Federal Reserve, and the FSOC. The CFPB has rulemaking authority for most federal consumer financial protection statutes, as defined in the DFA. It also has authority to conduct examinations, require reports and take enforcement actions with respect to these statutes in the case of banking organizations with assets of more than $10 billion and their affiliates. For smaller banking organizations, consumer compliance examination authority has remained with the applicable FBA. The FSOC is charged with: monitoring and identifying risks to financial stability across the entire U.S. financial system; identifying regulatory gaps; promoting market discipline; and coordinating agencies’ responses to potential systemic risks. However, the FSOC has no formal responsibility for overseeing financial crises or for guiding the development and implementation of consistent policy responses. The voting membership of the FSOC is composed of the Treasury Secretary (who is also chairperson of the FSOC); the heads of the three FBAs; the heads of the Consumer Financial Protection Bureau (CFPB), Securities and Exchange Commission (SEC), Commodities Futures Trading Commission (CFTC), Federal Housing Finance Agency (FHFA), and National Credit Union Administration (NCUA); and an independent member with insurance expertise appointed by the President and confirmed by the Senate. The FSOC is instructed by the DFA to designate as “systemically important” large, interconnected nonbank financial firms that are to be subject to consolidated supervision by the Federal Reserve and enhanced prudential standards. The FSOC has no direct supervisory powers but may make recommendations to its member agencies on the development of financial policies and rule making. The assessors met with staff from the FSOC. In addition to the operation of the FSOC, formal and informal mechanisms are in place to encourage cooperation and information sharing among the financial regulatory agencies. Foremost of the formal mechanisms is the FFIEC, with representatives from the FBAs and CFPB at head-of-agency level and from regulators of state-chartered banks and credit unions. The FFIEC’s objectives are to prescribe uniform federal principles and standards for the examination of depository institutions, to promote coordination of bank supervision among the FBAs and to encourage better coordination of federal and state regulatory agencies. The assessors met with the FFIEC. The range of informal mechanisms is discussed in CP 3. |
| EC 2 | The primary objective of banking supervision is to promote the safety and soundness of banks and the banking system. If the banking supervisor is assigned broader responsibilities, these are subordinate to the primary objective and do not conflict with it. |
| Description and findings re EC2 | Each FBA has the objective of promoting safe and sound banking practices in the U.S. and maintaining stability and public confidence in the banking system. The FBAs have authority to issue regulations or guidelines as deemed necessary to ensure the safety and soundness of the banks under their jurisdiction. See e.g., 12 U.S.C. § 93a (OCC); 12 U.S.C. § 1819 (FDIC); 12 U.S.C. §§ 248, 1844 (Federal Reserve); 12 U.S.C. § 1831p-1 (all FBAs). In addition, under the DFA, the FBAs and other financial regulatory agencies are required to supplement their traditional supervision and regulation of individual firms or markets with consideration of threats to the stability of the financial system as a whole. At the same time, the FBAs each have other objectives that they see as complementary, rather than subordinate, to their safety and soundness objectives. The OCC has the added objectives of assuring fair access to financial services and fair treatment of customers. The Federal Reserve has the objectives of maintaining the stability of the financial system and containing systemic risk that may arise in financial markets and influencing money and credit conditions in the economy in pursuit of full employment and stable prices. The FDIC has an additional objective of minimizing the disruptive effects that can occur within the financial system when bank or nonbank financial firms fail. |
| EC3 | Laws and regulations provide a framework for the supervisor to set and enforce minimum prudential standards for banks and banking groups. The supervisor has the power to increase the prudential requirements for individual banks and banking groups based on their risk profile23 and systemic importance.24 |
| Description and findings re EC3 | Under existing legislation, the FBAs have delegated authority for the imposition of prudential standards and they also issue guidance and manuals that describe supervisory expectations. The banking statutes, regulations and certain guidelines establish a framework of minimum prudential standards that banks and holding companies must meet, while policy statements, interpretations, and supervisory guidance and manuals (including the Federal Reserve’s Supervision and Regulation (SR) Letters) establish best practices that banks and holding companies are expected to meet. Taken together, the regulatory framework addresses such matters as capital adequacy, loan underwriting, single borrower and related party exposure limits, asset quality, loan losses and provisioning, risk management (including requirements for addressing specific types of risks), internal controls and audits, accounting standards, liquidity, Anti-Money Laundering and Combating the Financing of Terrorism (AML/CFT) and anti-fraud measures, among others. In addition, certain large bank holding companies, including foreign banking organizations and systemically significant nonbank financial companies, are subject to enhanced prudential standards. The DFA requires the enhanced prudential standards established by the Federal Reserve under section 165 to be more stringent than those standards applicable to other bank holding companies and nonbank financial companies that do not present similar risks to U.S. financial stability (12 U.S.C. § 5365(a)(1)(a)). The standards must also increase in stringency based on the systemic footprint and risk characteristics of companies subject to section 165 (12 U.S.C. 5365(a) (1) (B)). Generally, the Federal Reserve has authority under section 165 to tailor the application of the standards, including differentiating among companies subject to section 165 on an individual basis or by category. The FBAs generally have the authority to examine affiliates of banks under their supervision. In addition, the Federal Reserve generally has the authority to examine and obtain reports from a holding company and its affiliates so that it can be informed of, among other things, the companies’ conditions and stability of the U.S. financial system. The DFA eliminated previous restrictions on the Federal Reserve, imposed under the Gramm-Leach- Bliley Act, on the Federal Reserve’s ability to examine, obtain reports from, or take enforcement action against a functionally regulated subsidiary of a BHC, such as a broker-dealer or insurance company. |
| EC4 | Banking laws, regulations and prudential standards are updated as necessary to ensure that they remain effective and relevant to changing industry and regulatory practices. These are subject to public consultation, as appropriate. |
| Description and findings re EC4 | Several factors ensure that banking laws and regulations are regularly reviewed and updated as necessary to remain effective and relevant to changing industry and regulatory practices. A number of statutes require the FBAs to review their regulations at regular intervals to ensure that they remain relevant and effective and to reduce the burden on regulated entities. These reviews are conducted through a process that allows for widespread public (including industry) participation in developing more efficient and relevant rules. In many instances, changes in statutory provisions are adopted by Congress in response to specific crises or market failures, industry concerns or recommendations, or to update banking laws to address changes in the marketplace. Changes also may be made in response to judicial decisions. In some cases, the FBAs have the discretion to determine the most effective form (e.g., regulations, guidelines, supervisory guidance, interpretations, etc.) in which to promulgate revised or new requirements. Depending on the urgency or nature of issues to be addressed, change may be made as part of the agencies’ regular, periodic review of regulations, or may occur more quickly through the development and issuance of policy statements or guidelines. |
| EC5 | The supervisor has the power to:
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| Description and findings re EC5 | The FBAs have broad statutory authority to obtain a broad array of information from supervised entities and their affiliates, including financial data and information on their activities, operations, structure, corporate governance, risk management and any other details, in the form and with such frequency as the agencies deem necessary to determine and enforce compliance with applicable laws and ensure the safety and soundness of banks. Banks and their affiliates must provide the FBAs with full and complete access to their books, records and employees; failure to do so can result in the imposition of administrative sanctions. These duties extend to the foreign operations of banks and their affiliates, although the laws of foreign host countries may restrict U.S. banks in such countries from sharing certain information with the FBAs. The FBAs must also have full and complete access to the work papers, reports and other relevant materials of external auditors responsible for conducting an external audit of the banks. Institutions are subject to potentially significant monetary penalties for failure to make available information or reports, to submit reports on a timely basis, or for submitting or publishing any false or misleading report or information. As an essential component of consolidated supervision, the Federal Reserve maintains an understanding of all material parts of banking groups and nonbank financial groups subject to its supervision, including their domestic and cross-border operations. The Federal Reserve generally relies to the fullest extent possible on relevant primary supervisors and functional regulators for information about financial institutions within holding companies (see CP12). The local operations of foreign banks are subject to prudential, inspection and regulatory reporting requirements similar to those applicable to domestic banks. In general, these requirements can be found in the statutes and regulations applicable to domestic banks and in the International Banking Act and its implementing regulations (see CP13). The assessors saw a range of supervisory material confirming the access of the FBAs to bank boards and staff, and relevant records, to conduct detailed examinations. |
| EC6 | When, in a supervisor’s judgment, a bank is not complying with laws or regulations, or it is or is likely to be engaging in unsafe or unsound practices or actions that have the potential to jeopardize the bank or the banking system, the supervisor has the power to:
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| Description and findings re EC6 | The FBAs have broad authority to take (or require a bank to take) remedial measures when, in their judgment, a bank or holding company is not complying with laws or regulations or is, or is likely to be, engaged in an unsafe or unsound practice. In general, these authorities provide supervisors with both a range of proactive and remedial measures to address matters of concern and the discretion to determine when to employ them. The measures include restricting the current activities and operations of the organization, requiring new remedial activities, withholding or conditioning approval of new activities or acquisitions, restricting or suspending payments to shareholders or share repurchases, restricting asset transfers, barring individuals from banking, replacing or restricting the powers of managers, board directors or controlling owners, facilitating a takeover by or merger with a healthier institution, providing for the interim management of the bank, closing an institution and revoking its banking license, and issuing monetary fines against institutions and individuals (The Federal Reserve’s ability to appoint a conservator or receiver to close a bank is more limited by statute than the OCC’s or FDIC’s). The FBAs have the authority to cooperate and collaborate to achieve an orderly resolution of a bank; by statute, the FDIC is always appointed the receiver for closed insured banks. In general, remedial measures are imposed according to the extent and severity of the problem being addressed (see CP11). The assessors reviewed a number of examples of the different types of remedial measures. |
| EC7 | The supervisor has the power to review the activities of parent companies and of companies affiliated with parent companies to determine their impact on the safety and soundness of the bank and the banking group. |
| Description and findings re EC7 | As noted in EC5 above, as an essential component of consolidated supervision, the Federal Reserve maintains an understanding of all material parts of banking groups and nonbank financial groups subject to its supervision, including their domestic and cross-border operations. The Federal Reserve has the power to review the activities of parent holding companies and of companies affiliated with those and uses this power to determine and ensure the safety and soundness of bank subsidiaries. In addition, the OCC may examine affiliates of national banks. See 12 U.S.C. § 481. |
| Assessment of Principle 1 | Largely Compliant |
| Comments | The DFA reforms have resulted in some rationalization of responsibilities in the U.S. supervisory structure, with the dissolution of the OTS and the absorption of its responsibilities for federal savings associations by the OCC. Taken on its own, the assessors see this as a positive step forward. In principle, the establishment of a specialized, stand-alone consumer protection regulator should also help to provide greater clarity of purpose for the FBAs. Nonetheless, the problems associated with multiple regulators with distinct but overlapping mandates, highlighted in the 2010 Detailed Assessment Report (DAR), differ only in form but not substance. In particular, the supervisory structure involves substantial duplication of supervisory effort, carries a significant burden of ensuring cooperation and coordination, and runs the ongoing risk of inconsistent messages from the agencies. The assessors readily acknowledge the legislative constraints on the FBAs and welcomed the obvious determination of the FBA staff with whom they met to ensure that the revamped supervisory structure works effectively. The assessors also acknowledge the substantial commitment of the FBAs to safety and soundness. Within the legislative constraints, however, the assessors recommend further effort in two particular, and related, areas. The first is the mandate of the FBAs. Each of the mandates refers in different ways to the objective of safety and soundness. This objective has been underscored by the DFA and is manifest in the substantial commitment of additional resources in each of the agencies to safety and soundness. Nonetheless, the legislative mandates do not make explicit that the primary objective of each agency is to promote the safety and soundness of banks and the banking system, as this CP emphasizes. The FBAs have asserted that there is no confusion on the part of the agencies, the public or industry that the focus of bank supervision and regulation relates to safety and soundness. This may well be the case in the aftermath of the financial crisis, but the emphasis may shift over time if political or economic pressures were to bring other priorities, such as employment growth, to the fore. The assessors recommend that, in the absence of legislative change, each of the FBAs revisit their “mission and vision” statements to ensure they give primacy to safety and soundness and to clarify that the pursuit of other objectives must be consistent with, and if necessary subordinate to, that goal. The assessors note that an international peer review of the OCC’s supervision of large and mid-sized institutions made a similar recommendation in respect of the OCC. The second is the division of responsibilities between safety and soundness, and consumer protection. In other jurisdictions, the establishment of a specialized consumer regulator has freed the bank supervisor to focus on safety and soundness matters. In those jurisdictions, the supervisor needs to be able to respond to operational and reputational risks associated with a bank’s poor performance in dealing with customers, but it does not generally become involved in particular consumer matters. The U.S. arrangements as they stand may not, in the assessors’ view, achieve this greater clarity of purpose. The FBAs retain their responsibilities for consumer protection issues in banking institutions with assets of $10 billion or less and, as the assessors understand it, for particular consumer issues in institutions above that threshold. Given the legislative framework and the current resourcing of the CFPB, these arrangements may be the only way forward at this point. Nonetheless the assessors recommend that the FBAs and the CFPB explore ways to reduce duplication of effort, in matters such as risk reviews, and over time look to pursue opportunities for a more coherent division of responsibilities between safety and soundness, and consumer protection. In the assessors’ view, there remains further work on making the new supervisory structure more focused and effective, and they judge that a “Largely Compliant” rating is warranted. |
| Principle 2 | Independence, accountability, resourcing and legal protection for supervisors. The supervisor possesses operational independence, transparent processes, sound governance, budgetary processes that do not undermine autonomy and adequate resources, and is accountable for the discharge of its duties and use of its resources. The legal framework for banking supervision includes legal protection for the supervisor. |
| Essential criteria | |
| EC1 | The operational independence, accountability and governance of the supervisor are prescribed in legislation and publicly disclosed. There is no government or industry interference that compromises the operational independence of the supervisor. The supervisor has full discretion to take any supervisory actions or decisions on banks and banking groups under its supervision. |
| Description and findings re EC1 | As discussed under CP 1, each FBA operates pursuant to an express statutory grant of authority and has clearly defined objectives and responsibilities. Statutes and regulations provide supervisors clear and broad authority to address compliance with laws and the safety and soundness of institutions under their jurisdiction. In general, these authorities provide supervisors with both a range of proactive and remedial measures to address matters of concern and the discretion to determine when to employ them. Federal statutes also provide for the operational independence of each FBA. In addition to this statutory protection, other factors are intended to ensure the operational independence and accountability of each FBA, and these are discussed further below. They include the circumstances for appointment and removal of agency heads; the self-funding nature of the agencies and independence from the congressional budget process; accountability to, consultations with and testimony before and other submissions to Congress; multiple provisions for external review of, or public reporting on, agency operations; requirements to make records of the agency available to the public through various specified means, including upon request, under certain circumstances; adherence to requirements for establishing, meeting and reporting publicly on periodic operational performance targets; availability of judicial review for agency decisions; required annual reporting on regulatory and supervisory actions taken during the year; legal protection for supervisory staff acting within the scope of their employment; and conflicts of interest, financial disclosure and other similar restrictions applicable to agency personnel, including supervisory staff. The assessors saw no evidence of any constraints or intrusions on the operational independence of the FBAs by government or industry (see also EC 4 below). Clearly, however, the financial crisis has considerably increased political scrutiny of the agencies and raised expectations of stronger agency performance, which the assessors consider has been reflected in more intense and conservative supervisory approaches. For the FBAs, the organizing statutes, implementing regulations, guidelines and other resources are (and are required to be) made publicly available, including on the website of each agency. (See 5 U.S.C. § 552(a)). |
| EC2 | The process for the appointment and removal of the head(s) of the supervisory authority and members of its governing body is transparent. The head(s) of the supervisory authority is (are) appointed for a minimum term and is removed from office during his/her term only for reasons specified in law or if (s)he is not physically or mentally capable of carrying out the role or has been found guilty of misconduct. The reason(s) for removal is publicly disclosed. |
| Description and findings re EC2 | Laws establishing the FBAs specify the appointment process for the heads of the agencies, which is for a fixed term, but there are no laws specifying the reasons for removal of agency heads. The U.S. President, with the advice and consent of the Senate, appoints the heads. The Comptroller of the Currency is appointed to a five-year term, but can be removed by the President for cause prior to the expiration of his/her term, with the reasons to be laid before the Senate. During the Comptroller’s tenure, he/she also serves as a director of the FDIC, as does the Director of the CFPB. The FDIC’s three remaining directors are appointed by the President to six-year terms, although one of the appointed members is designated as Chairman for a five-year term. Members of the Federal Reserve Board of Governors are appointed to a full or to an unexpired portion of a 14-year term. One of the members is designated to serve as Federal Reserve Chairman, and another of the members is designed to serve as Vice Chairman, for a four-year term. All of these FBA positions are non-partisan, and there is no expectation that agency heads will resign at the conclusion of the term of the President who appointed them. See 12 U.S.C. § 2 (OCC); 12 U.S.C. § 242 (Federal Reserve); and 12 U.S.C. § 1812 (FDIC). |
| EC3 | The supervisor publishes its objectives and is accountable through a transparent framework for the discharge of its duties in relation to those objectives.25 |
| Description and findings re EC3 | Each of the FBAs complies with the Government Performance and Results Act of 1993, which requires federal agencies, in consultation with Congress and outside stakeholders, to prepare a strategic plan covering a multiyear period and submit an annual performance plan and performance report. See 5 U.S.C. § 306 and 31 U.S.C. § 1115. The performance plans and assessments are incorporated into the agencies’ annual reports, which are required to be made public. The agencies also are required, by separate statute, to report annually on regulatory and supervisory actions taken during the year. The FBAs’ strategic plans and performance reports related to regulation and supervision are high-level documents. They set out broad strategic objectives and, though the formats differ between the agencies, they provide discussion on roles and responsibilities, potential risks and challenges, and means and strategies. Few objective performance targets or measures are specified; those that are relate mainly to the completion of examination cycles or the initiation of enforcement actions within timeframes prescribed by statute or agency policy. In the assessors’ view, the strategic plans and performance reports are helpful in improving public understanding of the priorities and activities of the FBAs, and the assessors would encourage the agencies to develop performance metrics related to outcomes as well as activities. Oversight and accountability to Congress occur through various statutory reporting and frequent extensive hearings on various financial regulatory issues. This scrutiny has become more intense since the financial crisis began. The independence of agencies in expressing their views to Congress in testimony is specified by law. On behalf of Congress, the Government Accounting Office (GAO) conducts and publishes audits of the agencies’ performance. In 2009, the GAO placed the U.S. financial regulatory structure on its “high risk” list of matters warranting attention by Congress and the Executive branch of government. This was because of the GAO’s view that significant market developments in recent decades have outpaced a fragmented and outdated regulatory structure and significant reforms to the U.S. regulatory system are critically and urgently needed. The GAO considers that the U.S. financial regulatory structure remains on its “high risk” list; issues of continuing concern are the large regulatory agenda still to be completed, the challenge for regulators in identifying and monitoring systemic risk, and whether current initiatives will be effective in addressing the “too-big-to-fail” problem. In addition to oversight by the GAO, each FBA has an independent Inspector General (IG) that performs audits and evaluations of its operations. The IGs are also required by legislation to perform material loss reviews (which are published) of any bank failure that cost the FDIC insurance fund more than a specified materiality threshold level (now set at $50 million). In September 2011, the IG of the Federal Reserve published its “lessons learned” from a series of community bank failures in the crisis; a common theme from the supervision perspective was that, even when key safety and soundness risks had been identified, supervisors did not take sufficient action in a timely manner. This IG advised the assessors that the “pipeline” of failed banks subject to material loss reviews has shrunk considerably, allowing the IG to reallocate resources to assess aspects of the supervision of systemically important financial institutions. |
| EC4 | The supervisor has effective internal governance and communication processes that enable supervisory decisions to be taken at a level appropriate to the significance of the issue and timely decisions to be taken in the case of an emergency. The governing body is structured to avoid any real or perceived conflicts of interest. |
| Description and findings re EC4 | Each of the FBAs has a unique internal governance and accountability structure for supervision and regulation involving authority and review at various regional or central levels. Within each agency there are processes for delegation of various supervision and regulation functions. For example, within the Fed system, Reserve Bank Presidents have delegated authority for supervisory matters from the Board. In each agency, considerable day-to-day authority for supervision decisions (such as ratings of institutions) is vested in the examiner-in-charge (EIC) for each bank. Each agency has review processes that can result in changes in these assessments in exceptional cases. The structure of the various agencies leads to their own internal review and coordination processes, which differ somewhat from agency to agency. There are also processes to allow banks to appeal formal decisions of the FBAs including ratings and proposed enforcement actions. The agencies have sought to improve these internal governance and accountability arrangements in response to the crisis and to lessons learned. The assessors discussed the changes with each of the FBAs. Broadly, the changes have involved more centralized direction and oversight, improved reporting of risk issues to newly established high-level risk committees, and greater coordination between head office and regional and field offices to achieve a better blending of horizontal and vertical assessments of risk. The governance rules (legislation and/or by-laws) for the Federal Reserve district banks allow for two-thirds of the boards of these banks to be appointed by the regulated commercial banks. These boards, in turn, have the right to appoint the officers of the Reserve Banks (including those in charge of supervision) and to have a say in their compensation, and are involved in approving the budget. In principle, this may raise concerns—actual or perceived—about potential conflicts of interest in the governance structure of the Federal Reserve in the handling of supervisory matters. Federal Reserve staff advised the assessors that, in practice, the boards are not involved in any way in operational supervisory matters and the assessors saw no indications to the contrary. Nonetheless, these longstanding governance rules for Federal Reserve district banks appear out of line with the importance now being attached globally to board independence and are worthy of review. At the least, board charters should make explicit that boards do not engage in supervisory matters and a robust conflict of interest framework is in place. |
| EC5 | The supervisor and its staff have credibility based on their professionalism and integrity. There are rules on how to avoid conflicts of interest and on the appropriate use of information obtained through work, with sanctions in place if these are not followed. |
| Description and findings re EC5 | The FBAs require that agency heads and all staff maintain high professional standards and exhibit high integrity. Federal laws and regulations, as well as individual conflict-of-interest rules and codes of conduct of each of the FBAs, help to ensure that these standards are met. For some of the agencies, there are specific statutes governing ethical conduct. For example, the Comptroller of the Currency and Federal Reserve staff are subject to statutory restrictions on activities and affiliations that might raise conflicts of interests. See, e.g., 12 U.S.C. §§ 11 (unlawful for the Comptroller to hold an interest in a national bank) and 241, 242 (respectively prohibiting Federal Reserve members from holding office in or stock of a member bank). Similarly, FDIC employees are prohibited from owning stock in any FDIC-regulated entity. In addition, members of the FDIC Board of Directors are prohibited from holding any office, position or employment in any bank or holding company during their time in office and for two years after they leave office, subject to certain exceptions. See 12 U.S.C. § 1812. Senior examination staff of the FBAs are generally subject to a one-year post-employment “cooling off” period with respect to entities they supervised. Violators are subject to civil monetary penalties, can be removed from office and can be prohibited from participating in the affairs of the bank, the holding company, or any other company for up to five years. Examiners also are prohibited from accepting loans or gratuities from banks that they examine. OCC employees are also barred from representing another party before the Federal Government in a matter in which they participated as an OCC employee; the restriction is either two years or permanent. These standards are reinforced by a number of criminal statutes, including those prohibiting corruption, bribery, theft and fraud by agency employees. These laws are actively enforced. The FBAs have administrative policies to ensure that appropriate codes of conduct are being followed. These policies outline the requirements for examiners and other supervisory staff concerning investment prohibitions, borrowing prohibitions and recusal requirements based on considerations such as family, debt, or prior employment relationships. The assessors were impressed by the caliber of the agency staff they met, and banks and banking associations also attested to the professionalism and integrity of FBA staff. |
| EC6 | The supervisor has adequate resources for the conduct of effective supervision and oversight. It is financed in a manner that does not undermine its autonomy or operational independence. This includes:
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| Description and findings re EC6 | Each of the FBAs is self-funding and, thus, is not subject to the congressional budget process or congressional appropriations. The assessors were advised by each agency that it has the budget needed to increase the intensity of its supervision and oversight, which has been a major priority in recent years. Indeed, since the crisis the FBAs have achieved a significant build-up of staffing resources, particularly in the supervision of large banking organizations, policy implementation and stress testing. The Federal Reserve, in particular, has significantly increased staffing in its supervision and regulatory policy areas. Each of the FBAs sets its own salary scales for its employees, having regard to salaries paid to other financial regulatory agencies, federal government and private sector salaries. Although the FBAs do not seek to match higher-end private sector salary scales, the subdued market conditions over recent years have enabled the FBAs to attract experienced hires from the financial and banking community to supplement their traditional preference for entry-level recruitment. The FBAs have intensified their staff training to match the influx of recruits. The FBAs also indicated to the assessors that they have the budget to meet travel needs associated with on-site work (including reviews of the offshore operations of U.S. banking institutions) and to participate in relevant policy fora and supervisory colleges. |
| EC7 | As part of their annual resource planning exercise, supervisors regularly take stock of existing skills and projected requirements over the short- and medium-term, taking into account relevant emerging supervisory practices. Supervisors review and implement measures to bridge any gaps in numbers and/or skill-sets identified. |
| Description and findings re EC7 | Each of the FBAs undertakes an internal evaluation process to ensure that it has the staffing resources and skills to meet its supervisory needs. The assessors were advised that staffing requirements are generally determined from the “ground up” in the process of developing strategies and performance plans, and the assessors saw documents on this process. Active hiring and retention programs are used to attract and retain staff with the necessary critical skills. The FBAs offer comprehensive training for their staff, including a structured skills enhancement program to qualify as an examiner-in-chief. The FBAs also have the flexibility to bring in specialist staff on a fixed-term basis, as the FDIC has done to manage the significant increase in the number of bank workouts during the crisis. |
| EC8 | In determining supervisory programs and allocating resources, supervisors take into account the risk profile and systemic importance of individual banks and banking groups, and the different mitigation approaches available. |
| Description and findings re EC8 | By statute, the FBAs are required to conduct a full-scope, onsite exam of each bank at least once during each twelve-month period. However, the agencies can lengthen this cycle to 18 months for banks that meet certain asset size thresholds and supervisory rating criteria. See 12 U.S.C. § 1820(d)(4). Figures provided to the assessors (see table in CP 9) show that institutions subject to the longer review cycle account for a majority of regulated institutions but only a small percentage of total system assets. The FBAs utilize a risk-based supervisory approach. As part of this approach, supervisory programs are applied that are appropriate to the geographic scope and degree of specialization, sophistication, risk, size and complexity of the activities and organization of banks. In general, those entities presenting the greatest risk receive the most intense, frequent and comprehensive scrutiny. Supervisory programs allocate resources to each risk area, taking into account the intended frequency and intensity of risk assessments. As noted throughout this BCP assessment, each of the FBAs has increased the staffing resources allocated to the supervision of large banking organizations, reflecting the complexity and systemic importance of these organizations and the heightened supervisory focus on stress testing. |
| EC9 | Laws provide protection to the supervisor and its staff against lawsuits for actions taken and/or omissions made while discharging their duties in good faith. The supervisor and its staff are adequately protected against the costs of defending their actions and/or omissions made while discharging their duties in good faith. |
| Description and findings re EC9 | The FBAs and their staffs are generally protected against lawsuits for actions and/or omissions made while discharging their duties in good faith. Sovereign immunity bars lawsuits without specific statutory authorization to pursue such litigation. Common law qualified immunity protects FBAs’ heads and staff from liability for the violation of an individual’s Constitutional rights in connection with the performance of discretionary functions, as long as the employee’s conduct does not clearly violate established statutory or Constitutional rights. Lawsuits are permitted against FBAs’ employees for acts and/or omissions that cause injuries while acting within the scope of their employment. In such a case, the U.S. would substitute itself as the defendant upon the Attorney General’s certification that an employee was acting within the scope of his office or employment. Moreover, an exception to the relevant act protects employees from lawsuits involving the execution of a statute or regulation or the exercise/ failure to exercise a discretionary function, whether or not the employee abused the discretion involved. |
| Assessment of Principle 2 | Compliant |
| Comments | Since the crisis, political and community expectations about the performance of the FBAs have heightened and the FBAs have responded by strengthening their accountability and transparency. This would be aided by further development of performance measures focused on supervisory outcomes. The FBAs have also improved their internal decision-making processes and have stepped up their supervisory intensity, particularly towards large banking organizations. Delivery on these various initiatives has required a substantial commitment of additional resources and specialized skills. The assessors welcome the success of the FBAs in strengthening their capacities. The challenge ahead will be to retain those capacities as U.S. economic conditions continue to improve and specialist skills in areas such as stress testing and risk modeling become even more attractive to industry. The assessors encourage the FBAs to keep their hiring programs flexible and responsive, and their training programs fully funded. As noted in the 2010 DAR, the independence of the Federal Reserve’s supervisory role would be further assured if the governance rules for the boards of Federal Reserve district banks were made consistent with emerging global good practice; at the least, greater clarity and transparency about the role of these boards in operational supervisory matters is needed. |
| Principle 3 | Cooperation and collaboration. Laws, regulations or other arrangements provide a framework for cooperation and collaboration with relevant domestic authorities and foreign supervisors. These arrangements reflect the need to protect confidential information.26 |
| Essential criteria | |
| EC1 | Arrangements, formal or informal, are in place for cooperation, including analysis and sharing of information, and undertaking collaborative work, with all domestic authorities with responsibility for the safety and soundness of banks, other financial institutions and/or the stability of the financial system. There is evidence that these arrangements work in practice, where necessary. |
| Description and findings re EC1 | The FBAs have broad statutory powers to share information with other domestic banking supervisors. See e.g., 12 U.S.C. §§ 1817 (a)(2)(A) and (C) on sharing with FDIC, a state or federal agency with supervisory or regulatory authority over the bank or other entity, or any appropriate person and 3412(e) on sharing of financial records, reports of examination or other information about a bank, holding company or bank or holding company subsidiary among and between the five FFIEC member supervisory agencies, as well as the SEC, CFTC, FTC and CFPB. The FBAs have a number of formal and informal mechanisms for information sharing, which forms an integral part of supervisory programs for the consolidated supervision of banks and holding companies. The FBAs routinely share information with each other. This typically occurs at the time of formation of a banking group, authorization of a new activity, changes in a banking group’s structure, as well as during supervisory activities, in crisis situations, and as part of periodic meetings among supervisors. Examination findings are also shared between the FBAs, as appropriate. Since the crisis, the FBAs have enhanced their collaboration in a number of ways, including: the sharing of supervisory plans for review and comment; quarterly meetings of examiners of large banks to discuss heightened risk areas and upcoming targeted reviews; increased joint supervisory presence at examinations of systemically important banks; joint participation in the Federal Reserve’s horizontal reviews: and a stronger commitment to issue joint supervisory guidance when possible. The FBAs routinely exchange information with state supervisory agencies. The assessors were advised, however, that these agencies do not necessarily consult with the FBAs (or with foreign supervisors) when the agencies take enforcement actions. The FBAs are also seeking to improve information with functional regulators, such as the SEC and the CFTC, related to securities companies in a banking group or a financial conglomerate that includes a bank. A MoU between the OCC and the SEC was finalized in September 2014. The FBAs also have formal arrangements with state insurance supervisors to coordinate and plan supervisory activities, both on a routine and an emergency basis, with respect to particular banking groups that have significant insurance operations. The Federal Reserve makes available relevant information to other banking agencies and functional regulators regarding the financial condition, risk-management policies and operations of a holding company that may have a material impact on an individual regulated subsidiary. The other FBAs make information about bank subsidiaries of holding companies available to the Federal Reserve and to each other. Other functional regulators also provide information to the FBAs concerning regulated entities within U.S. banking groups that may have an adverse effect on the banks within the group. As noted in CP1, the FSOC facilitates regulatory coordination and information sharing among the member agencies, among other responsibilities. The Federal Reserve, OCC, CFPB and FDIC are members. |
| EC2 | Arrangements, formal or informal, are in place for cooperation, including analysis and sharing of information, and undertaking collaborative work, with relevant foreign supervisors of banks and banking groups. There is evidence that these arrangements work in practice, where necessary. |
| Description and findings re EC2 | The FBAs have broad statutory authority to share relevant supervisory information with foreign financial sector (banking and functional) supervisors of banks and banking groups of interest to the home or host supervisor (see, e.g., 12 U.S.C. § 3109). The FBAs may disclose information obtained in the course of exercising their supervisory or examination authority; they may also assist foreign banking supervisors by investigating and collecting information and evidence where the foreign supervisor is conducting an investigation to determine whether a person has violated, is violating or is about to violate any law or regulation enforced by that supervisor. The FBAs have entered into bilateral formal information-sharing and cooperation arrangements (e.g., memoranda of understanding and statements of cooperation) with a number of foreign supervisors, and additional arrangements are in process. These arrangements cover the sharing of confidential supervisory information, with an emphasis on host-to-home sharing to support home supervisors’ consolidated supervision of the financial groups for which they have responsibility. The arrangements contain a number of requisite provisions to govern the confidentiality of information. The arrangements also provide for on-site examinations by home authorities of cross-border operations in the host jurisdiction. The FBAs are authorized to share relevant supervisory information even in the absence of a formal arrangement, and in practice they share significant information whether acting in a home or host capacity. The assessors saw evidence that these arrangements are working in practice. |
| EC3 | The supervisor may provide confidential information to another domestic authority or foreign supervisor but must take reasonable steps to determine that any confidential information so released will be used only for bank-specific or system-wide supervisory purposes and will be treated as confidential by the receiving party. |
| Description and findings re EC3 | The FBAs are subject to a general statutory prohibition on disclosing certain types of confidential financial information unless the law specifically authorizes such sharing. In addition, each FBA’s regulations, which have the force of law, require confidential treatment of a broad range of non-public supervisory information. In general, prior to engaging in information sharing, the FBAs require assurances that the information will be used only for lawful supervisory purposes and will be kept confidential. Under the International Banking Act, the FBAs must determine that disclosure to a foreign bank supervisor is appropriate and would not prejudice the interest of the U.S. (see 12 U.S.C. § 3109(a)). In addition, the FBAs must obtain, to the extent necessary, the recipient’s agreement to keep the information confidential to the “extent possible under applicable law” (see 12 U.S.C. § 3109(b)). |
| EC4 | The supervisor receiving confidential information from other supervisors uses the confidential information for bank-specific or system-wide supervisory purposes only. The supervisor does not disclose confidential information received to third parties without the permission of the supervisor providing the information and is able to deny any demand (other than a court order or mandate from a legislative body) for confidential information in its possession. In the event that the supervisor is legally compelled to disclose confidential information it has received from another supervisor, the supervisor promptly notifies the originating supervisor, indicating what information it is compelled to release and the circumstances surrounding the release. Where consent to passing on confidential information is not given, the supervisor uses all reasonable means to resist such a demand or protect the confidentiality of the information. |
| Description and findings re EC4 | The FBAs are able to deny demands for confidential information in their possession except in limited situations. Such information may be subpoenaed by a court, a grand jury or a committee of the U.S. Congress. When feasible, an agency that is being compelled to provide confidential information received from another supervisor (domestic or foreign) will notify such supervisor and make reasonable efforts to resist disclosure. The FBAs also must notify and provide information to U.S. law enforcement authorities if they receive indications of a possible violation of criminal law. Under the International Banking Act, confidential material provided by a foreign supervisor will have broad protection from compelled onward disclosure if certain conditions are met. If these conditions are met, the FBAs could not be compelled to disclose such information except to a committee of the U.S. Congress or to comply with an order of a U.S. court. |
| EC5 | Processes are in place for the supervisor to support resolution authorities (e.g. central banks and finance ministries as appropriate) to undertake recovery and resolution planning and actions. |
| Description and findings re EC5 | The broad statutory authority of the FBAs to share information with other domestic and foreign financial authorities would include sharing relevant recovery- and resolution-related information with foreign resolution authorities, central banks and finance ministries with responsibility for resolution. See, e.g., 12 U.S.C §§ 1817(a)(2)(A) and (C); 12 U.S.C. § 3109. Such information may be provided on a bilateral basis under existing memoranda of understanding (or similar arrangements) or in response to specific requests. In the U.S., the FDIC is both the resolution authority and a direct supervisor. Therefore, coordination is an integral part of the FDIC’s activities as the resolution authority, and ongoing relationships with the other FBAs and state supervisory agencies provide the basis for effecting resolutions in an orderly and timely manner. Recovery and resolution planning also takes place in the CMGs established for large U.S. banking groups. The U.S. regulatory authorities have been working with their foreign counterparts to complete cooperation agreements (COAGs) that will facilitate work in the CMGs by establishing a framework for cooperation and the protection of sensitive supervisory information. The FBAs participate as home and host authorities of firms designated as global systemically important financial institutions by the Financial Stability Board in numerous firm-specific CMGs for the purposes of developing crisis management strategies and resolution plans for such firms. The FBAs also participate as home and host authorities in supervisory colleges established for a number of banking institutions at which recovery plans created by those institutions are reviewed. |
| Assessment of Principle 3 | Compliant |
| Comments | The U.S. system of multiple FBAs with distinct but overlapping responsibilities puts an absolute premium on effective domestic cooperation and collaboration if consolidated supervision is to be targeted, comprehensive and timely. The assessors are satisfied that the FBAs have made a substantial effort since the crisis to improve their performance in this area, and this was also acknowledged in meetings with staff from all three agencies. The improvements are evident in the sharing of strategic planning and institution-specific supervisory plans, the greater frequency of interagency meetings, the increased number of examinations and other visits conducted jointly, the sharing of information, and efforts to ensure consistent messaging to banking organizations. However, consistency may not always be achieved when the FBAs bring different perspectives to a current issue, a concern raised by banks with which the assessors met in the context of recent guidance on leveraged lending. It is important that the effort be maintained and that collaboration becomes fully engrained in the modus operandi of each agency, so as to avoid any temptation to “go it alone” when crisis pressures next emerge. To this end, the assessors recommend that the FBAs ensure that the preparation of supervisory plans is on the same cycle or, when that is not practicable, that supervisory strategies for individual institutions are carefully coordinated and that necessary specialized resources are available. Internationally, the establishment of supervisory colleges and CMGs has given greater urgency to information-sharing arrangements, which have moved or are moving to more formal footings. The assessors have accepted the views put by each of the FBAs that there are no legal or other impediments to their ability and willingness to cooperate and collaborate with foreign supervisors. The actual performance of supervisory colleges was beyond the scope of this assessment and the assessors did not review papers from supervisory colleges. International cooperation would be further strengthened if state supervisory agencies consulted fully, in all cases, with the FBAs and foreign supervisors on impending enforcement actions. The assessors were made aware of circumstances where this was not the case. Although this is a clear deficiency in cooperation arrangements, the assessors did not judge it as sufficient to lower the “Compliant” rating for CP 3, but improvements in such consultations should be a high priority. |
| Principle 4 | Permissible activities. The permissible activities of institutions that are licensed and subject to supervision as banks are clearly defined and the use of the word “bank” in names is controlled. |
| Essential criteria | |
| EC1 | The term “bank” is clearly defined in laws or regulations. |
| Description and findings re EC1 | Federal and state laws expressly provide for the establishment, operation, permissible activities and transactions, and supervision of entities referred to as “banks.” In general, a “bank” is an institution (a) incorporated or chartered either under federal or state law; (b) authorized to engage in activities as specified under applicable law, typically including accepting demand deposits and engaging in the business of making loans; and (c) subject to supervision by state or federal authorities. Hence, the term “bank” is defined in terms of its range of permitted activities. Laws also provide for the establishment of specialized institutions that engage in some activities also permitted banks, but that generally are not called “banks.” These include “savings associations.” They provide many of the same services as banks and are supervised similarly. There is a small number of other more specialized institutions supervised by the FDIC that are not subject to the full gamut of banking regulations (e.g., industrial loan companies, trust companies, credit card banks and single purpose banks). These latter institutions, through “grandfathering clauses,” provide typical banking services and may remain in the deposit insurance scheme. Collectively, however, they have only a small share of the U.S. banking market. |
| EC2 | The permissible activities of institutions that are licensed and subject to supervision as banks are clearly defined either by supervisors, or in laws or regulations. |
| Description and findings re EC2 | Federal and state banking laws and regulations provide clear parameters on permissible activities and transactions for banks. The National Bank Act, the Home Owners’ Loan Act and implementing regulations specify the permissible activities of national banks and federal savings associations, respectively. In general, banks are limited to a set of activities considered to be “banking” or related and necessary to banking activities. Under certain circumstances, banks can be permitted to engage in a broader range of “financial” activities through particular subsidiaries or by parent companies; in general, however, banks cannot engage in additional activities through a subsidiary that they would not be able to engage in directly. Bank holding companies and savings and loan holding companies are permitted to engage in a variety of activities that are closely related to banking. The state laws under which state banks and state savings associations are chartered specify the permissible activities of such institutions. Federal law provides an “overlay” to the states’ authority to determine the permissible activities and transactions of such institutions. In general, insured state chartered banks and savings associations may only engage in activities permissible for national banks and federal savings associations, respectively, unless the FDIC determines that an activity poses no significant risk to the deposit insurance fund, is related to the business of banking and engaged in directly, and the banks or savings associations continue to meet applicable capital requirements. |
| EC3 | The use of the word “bank” and any derivations such as “banking” in a name, including domain names, is limited to licensed and supervised institutions in all circumstances where the general public might otherwise be misled. |
| Description and findings re EC3 | No entity may operate as a “bank” and engage in banking operations in the U.S. without a charter from a federal or state banking agency. 12 U.S.C. § 378 makes it a crime for any person or entity to purport to be a bank that accepts deposits if the entity is not licensed as such by an appropriate banking agency. In addition, states generally prohibit a corporation from using the word “bank” in its name unless it has a bank charter. Federal law also makes it a crime to make unauthorized use of terms, such as “national,” “Federal,” “United States,” “reserve” or “Deposit Insurance”, that indicate a federal banking charter, membership in the Federal Reserve or federal deposit insurance. The FBAs issue public alerts about known unauthorized use of these terms but do not have the power to take enforcement actions themselves against such usage. |
| EC4 | The taking of deposits from the public is reserved for institutions that are licensed and subject to supervision as banks.27 |
| Description and findings re EC4 | 12 U.S.C. § 378 stipulates that all persons or entities engaged in demand deposit-taking are required to be subject to some degree of regulation, supervision or oversight by federal or state authorities. Persons violating this requirement are subject to criminal penalties, including fines and imprisonment. In practice, entities engaged in retail deposit-taking (except credit unions) are generally licensed and subject to supervision as banks or savings associations. |
| EC5 | The supervisor or licensing authority publishes or otherwise makes available a current list of licensed banks, including branches of foreign banks, operating within its jurisdiction in a way that is easily accessible to the public. |
| Description and findings re EC5 | Collectively through the FFIEC, and separately, the FBAs publish and regularly update information on banks and holding companies (domestic and foreign, and including U.S. branches and subsidiaries of foreign banks) subject to their jurisdiction. Information accessible through the FFIEC’s National Information Center includes detailed financial information and organizational charts. |
| Assessment of Principle 4 | Compliant |
| Comments | There is a well-established framework for defining the permissible activities of banks and protecting the integrity of the term “bank”. Though not a specific responsibility of the FBAs, it is important that the U.S. authorities closely monitor the disclosure practices of “bank-like” institutions, such as mutual funds offering deposit-like products, to ensure the community is well informed about the security of their savings. |
| Principle 5 | Licensing criteria. The licensing authority has the power to set criteria and reject applications for establishments that do not meet the criteria. At a minimum, the licensing process consists of an assessment of the ownership structure and governance (including the fitness and propriety of Board members and senior management)28 of the bank and its wider group, and its strategic and operating plan, internal controls, risk management and projected financial condition-(including capital base). Where the proposed owner or parent organization is a foreign bank, the prior consent of its home supervisor is obtained. |
| Essential criteria | |
| EC1 | The law identifies the authority responsible for granting and withdrawing a banking license. The licensing authority could be the banking supervisor or another competent authority. If the licensing authority and the supervisor are not the same, the supervisor has the right to have its views on each application considered, and its concerns addressed. In addition, the licensing authority provides the supervisor with any information that may be material to the supervision of the licensed bank. The supervisor imposes prudential conditions or limitations on the newly licensed bank, where appropriate. |
| Description and findings re EC1 | Banks, whether organized under federal or state law, are regulated and supervised by their licensing authority, as discussed in EC 2 below. They are typically also subject to concurrent regulation and supervision by one or more additional banking agencies. Establishing a de novo bank often involves obtaining related authorizations (i.e. federal deposit insurance, membership in the Federal Reserve System) from more than one agency. In particular, foreign banks establishing a branch, agency or a subsidiary bank in the U.S. must obtain approval from the Federal Reserve as well as from the relevant licensing authority (see EC 10). The relevant agencies have well-established practices and procedures to communicate and coordinate investigations on related licensing and deposit insurance applications, and often conduct joint investigations on such applications. The assessors saw examples of interagency communications and information sharing on license applications. The licensing authorities/supervisors generally have the authority to impose prudential conditions or limitations on newly licensed banks, as appropriate. |
| EC2 | Laws or regulations give the licensing authority the power to set criteria for licensing banks. If the criteria are not fulfilled or if the information provided is inadequate, the licensing authority has the power to reject an application. If the licensing authority or-supervisor determines that the license was based on false information, the license can be revoked. |
| Description and findings re EC2 | The authority to license banks and the criteria to be considered are set out in statutes and regulations. The OCC is the licensing authority for national banks (see 12 U.S.C. §21 et seq) and federal savings associations (see 12 U.S.C. § 1464(a)), while each of the states has the authority to license (“charter”) banks headquartered and operating within its jurisdiction. Typically, the OCC and the states make licensing approvals for de novo banks conditional on the receipt of deposit insurance coverage. The FDIC alone is authorized to make determinations regarding deposit insurance under the Federal Deposit Insurance (FDI) Act. The OCC may deny an application if it determines that the applicants have not met the established criteria or if the information provided is inadequate. The FDIC and the Federal Reserve may also deny authorizations within their respective competences The agencies must evaluate the evidence and, in this respect, may conduct investigations and exercise independent judgment based on all the information collected. Providing false or misleading information can be a basis for civil, administrative and criminal liability, and the penalties can include license revocation. See 12 U.S.C. §93 (a). The primary supervisor must consult with other relevant agencies on action to revoke a license. The FDIC is the resolution authority for banks. |
| EC3 | The criteria for issuing licenses are consistent with those applied in ongoing supervision. |
| Description and findings re EC3 | Although not expressly required by statute, the criteria for issuing licenses are generally consistent with those applied in ongoing supervision. For example, the OCC considers whether an applicant bank: (a) has organizers who are familiar with national banking laws and regulations; (b) has competent management that has ability and experience relevant to the type of products and services to be provided, and the scope and size of the projected risks; (c) has capitalization, access to liquidity, and risk-management systems that are sufficient to support the projected volume and type of business; (d) can reasonably be expected to achieve and maintain profitability; and (e) will operate in a safe and sound manner. See 12 CFR 5.20(f)(2). The OCC evaluates these same factors and others in the course of ongoing supervision. Supervisory material provided to the assessors confirmed a thorough license evaluation process. When evaluating applications for deposit insurance, the FDIC considers seven statutory factors enumerated in Section 6 of the FDI Act. These factors assess: the financial history and condition of the proposed depository institution and its parent organization; capital structure; proposed ownership and management; earnings prospects; activities to be conducted; convenience and needs of the community to be served; and potential risks to the Deposit Insurance Fund. The FDIC also considers the complexity and unique nature of the underlying proposal and business plan, including the conditions under which the proposed institution will operate. Supervisory material provided to the assessors confirmed a thorough process for evaluating applications for deposit insurance. |
| EC4 | The licensing authority determines that the proposed legal, managerial, operational and ownership structures of the bank and its wider group will not hinder effective supervision on both a solo and a consolidated basis.29 The licensing authority also determines, where appropriate, that these structures will not hinder effective implementation of corrective measures in the future. |
| Description and findings re EC4 | The FBAs acknowledge that developing a complete understanding of the proposed legal, managerial, operational and ownership structures of a bank, on both a stand-alone and consolidated basis, is an essential component of the licensing process. In order to fulfill its responsibility for protecting the safety and soundness of banks, each banking agency must have a clear understanding of proposed internal operating and external ownership (including group) structures and be able to assess (at authorization and during ongoing supervision) the impact that those structures may have on the integrity of a bank. The importance of structural assessments to safety-and-soundness evaluations is emphasized in the “Joint Agency Statement on Parallel-Owned Banking Organizations” (April 23, 2002). If impediments exist or arise, the agencies may take appropriate remedial measures, including denying or terminating a bank’s license, deposit insurance coverage or Federal Reserve membership. The assessors understand that, in the light of crisis experience, the FBAs have a strong preference for business models that are transparent and are viable without an over-reliance on affiliates. |
| EC5 | The licensing authority identifies and determines the suitability of the bank’s major shareholders, including the ultimate beneficial owners, and others that may exert significant influence. It also assesses the transparency of the ownership structure, the sources of initial capital and the ability of shareholders to provide additional financial support, where needed. |
| Description and findings re EC5 | As part of the licensing process, applicants are required to identify prospective shareholders and key decision-makers, including ultimate beneficial owners. The OCC may require each prospective principal shareholder (generally, those owning or controlling 10 per cent or more of a class of a bank’s shares) and key decision-makers of an applicant to provide detailed information on their current and past work experiences and financial holdings. The OCC conducts a background check and/or field investigation for information on criminal convictions, financial capacity and expertise in the financial industry. The FDIC also conducts background investigations of prospective principal shareholders, directors and executive officers during its review of deposit insurance applications. The assessors saw ample evidence of these evaluation processes. Assessments regarding principal shareholders primarily consider whether they have the ability to provide financial support to the proposed bank. A necessary part of this assessment is identifying the sources of initial capital from and the liquidity position of principal shareholders, and ensuring transparency of ownership structures. The FDIC’s “Final Statement of Policy on Qualifications for Failed Bank Acquisitions” (September 2, 2009) confirms that complex and functionally opaque ownership structures in which the beneficial ownership is difficult to ascertain with certainty, the responsible decision-makers are not clearly identified, and ownership and control are separated, would not be granted approval to own an insured depository institution. |
| EC6 | A minimum initial capital amount is stipulated for all banks. |
| Description and findings re EC6 | In general, a de novo depository institution must have a minimum amount of initial capital, which is available and ready to be deployed. For de novo banks, the OCC does not stipulate a minimum dollar amount of capital but it requires the bank to have sufficient initial capital (net of pre-opening expenses) to support the projected volume and type of business to be conducted. However, a de facto minimum of $2 million applies since that is the FDIC’s minimum capital requirement for inclusion in the deposit insurance scheme. Generally, the OCC expects a de novo bank to remain above the “well-capitalized” level for purposes of Prompt Corrective Action throughout the first three years of its operation, and requires it to meet a minimum leverage ratio, measured in terms of tier 1 capital to on-balance sheet assets, of 8 per cent throughout that period, based on a realistic business plan. In most cases, a newly insured bank requires initial capital of significantly more than $2 million to reach a size and scale that enables it to operate and compete in its identified geographic market(s). For de novo federal savings associations, there is a statutory minimum initial required capital of $2 million (see 12 CFR 1431.3(b)). In addition to its minimum capital requirement for all depository institutions, the FDIC requires institutions to maintain an adequate Allowance for Loan and Lease Losses (ALLL) (see CP 18). For state nonmember institutions, the FDIC requires that the minimum leverage ratio of 8 per cent be met throughout the first seven years of operation. Furthermore, depending on a de novo institution’s anticipated risk profile, and regardless of charter type, the FDIC and/or other appropriate agency may impose a minimum leverage ratio requirement in excess of 8 per cent. The assessors questioned the FBAs about the de facto $2 million minimum capital requirement for de novo banks and savings associations, which is much lower than the corresponding requirement for small banks in many other jurisdictions. The assessors were advised that the limit has become largely irrelevant and is in need of review; the OCC provided information that initial capital in a range of $10-20 million is more typical for smaller de novo banks. |
| EC7 | The licensing authority, at authorization, evaluates the bank’s proposed Board members and senior management as to expertise and integrity (fit and proper test), and any potential for conflicts of interest. The fit and proper criteria include: (i) skills and experience in relevant financial operations commensurate with the intended activities of the bank; and (ii) no record of criminal activities or adverse regulatory judgments that make a person unfit to uphold important positions in a bank.30 The licensing authority determines whether the bank’s Board has collective sound knowledge of the material activities the bank intends to pursue, and the associated risks. |
| Description and findings re EC7 | The FBAs, as applicable, evaluate proposed directors and senior management with respect to expertise, integrity and any potential for conflicts of interest. The OCC, for example, generally considers each individual’s: (a) financial institution and other business experience; (b) duties and responsibilities with respect to the proposed bank and, if applicable, holding companies and affiliates; (c) personal and professional financial responsibility, e.g., indicated by earlier professional experiences; (d) reputation for honesty and integrity, e.g., verified by (lack of) criminal convictions; and (e) familiarity with the economy, financial needs and general character of the community in which the bank will operate. Applicants must demonstrate that each prospective director has sufficient competence, experience and ability to direct the policies of the bank in a safe and sound manner, taking into account the circumstances and plans of the organization. Officers must show their ability to perform their proposed duties successfully, e.g., in interviews with licensing staff. The assessors saw ample evidence of this evaluation process. |
| EC8 | The licensing authority reviews the proposed strategic and operating plans of the bank. This includes determining that an appropriate system of corporate governance, risk management and internal controls, including those related to the detection and prevention of criminal activities, as well as the oversight of proposed outsourced functions, will be in place. The operational structure is required to reflect the scope and degree of sophistication of the proposed activities of the bank.31 |
| Description and findings re EC8 | Applicants must show that the proposed business plan is viable and that the proposed management team has the ability to implement the plan successfully. The plan generally must: (a) establish the bank’s ability to achieve a reasonable market share; (b) show that the bank has reasonable earnings prospects and the ability to attract and maintain adequate capital; (c) demonstrate that management is knowledgeable of and has plans for serving the community’s needs; and (d) be supported by adequate policies, procedures and management expertise so that the bank can be operated in a safe and sound manner. Typically, applicants must provide a documented analysis of the market environment and realistic financial projections based on reasonable assumptions related to interest rates, growth, expenses and potential losses. To evaluate corporate governance structures, the licensing authorities seek to understand the board’s involvement in setting and enforcing clear lines of responsibility and accountability by reviewing organizational charts, business plans and proposed policies and procedures. The agencies specifically determine how a bank’s board will approve, oversee and communicate the bank’s strategic objectives and otherwise exercise its fiduciary responsibilities. Board members are expected to exercise the duties of loyalty and care, which require them to act as prudent and diligent business persons in conducting the affairs of the bank. The agencies also consider the relationship between the proposed bank (its affiliates and holding company, if applicable) and any related parties. This includes evaluating potential conflicts of interest, terms and conditions of any transactions, contracts or business relationships, and the terms of compensation plans. With respect to risk-management systems and policies, applicants must develop appropriate written investment, loan, funds management and liquidity policies. They must also establish an acceptable internal control structure and audit program, including policies and procedures necessary to prevent the bank from being used for criminal purposes (including money laundering and terrorist financing) and for exercising appropriate oversight over outsourced functions. The operational structure and risk-management framework are expected to be consistent with the complexity, risk and scope of proposed operations. Plans that involve high-risk lending, a special purpose market or significant funding from sources other than core deposits, or that otherwise diverge from conventional bank-related financial services, require specific documentation as to the suitability of the proposed activities for a bank. Similarly, additional documentation is required where markets to be entered are intensely competitive or economic conditions are marginal. As noted above, supervisory material provided to the assessors confirmed that the evaluation processes of the agencies were detailed, probing and comprehensive, and incorporated a range of financial information as well as thoughtful supervisory judgment. |
| EC9 | The licensing authority reviews pro forma financial statements and projections of the proposed bank. This includes an assessment of the adequacy of the financial strength to support the proposed strategic plan as well as financial information on the principal shareholders of the bank. |
| Description and findings re EC9 | The OCC evaluates the inherent risks of the applicant’s business model and reasonableness of the financial projections as a critical element of the licensing process. Also critical is an assessment of the adequacy of financial strength, including capital levels, to support the proposed strategic plan. Estimates must be fully documented, supported and based on established growth patterns in the applicant’s specific market area. The OCC also evaluates concentrations of funding sources for safety and soundness concerns and determine whether contingency funding plans are adequate for the bank’s complexity and risk profile. With respect to asset growth projections, the OCC generally reviews the nature and risk profile of the asset mix, identify high-risk asset concentrations and consider whether risk-management systems and policies sufficiently measure, identify, and control risks. Depending on the risk profile of the assets contemplated, the OCC may require stress tests to show that the bank can maintain required minimum capital ratios and adequate profitability under adverse market conditions. Applicants must demonstrate that the proposed bank can achieve stabilized operations and generate an adequate profit within a reasonable period of time (typically, three years). |
| EC10 | In the case of foreign banks establishing a branch or subsidiary, before issuing a license, the host supervisor establishes that no objection (or a statement of no objection) from the home supervisor has been received. For cross-border banking operations in its country, the host supervisor determines whether the home supervisor practices global consolidated supervision. |
| Description and findings re EC10 | Foreign banks establishing a branch, agency or a subsidiary bank in the U.S. must obtain approval both from the licensing authority (the OCC or a state licensing authority) and from the Federal Reserve. The licensing authority may, and the Federal Reserve generally must, determine that the foreign bank, and any parent foreign bank, is subject to comprehensive and consolidated supervision by its home country supervisor. The licensing authority and the Federal Reserve also assess the extent, if at all, to which home country supervisors oversee or monitor any operations between a foreign bank and any foreign nonbank parent. The adequacy of home country supervision is evaluated at authorization and as part of ongoing supervision. The licensing authority and the Federal Reserve routinely contact the home country supervisor during the application process and, in making a decision on an application, take into account whether the home country supervisor has approved (or expressed no objection) to the proposal. See 12 CFR 28.12(b)(6) (OCC). The assessors saw evidence of this process. A foreign entity that is not a BHC must obtain Federal Reserve approval before establishing or acquiring a subsidiary savings association in the U.S. If the foreign entity is a foreign bank, the Federal Reserve must determine that the foreign bank and any foreign bank parent are subject to comprehensive and consolidated supervision by the home country supervisor. |
| EC11 | The licensing authority or supervisor has policies and processes to monitor the progress of new entrants in meeting their business and strategic goals, and to determine that supervisory requirements outlined in the license approval are being met. |
| Description and findings re EC11 | The FBAs monitor the progress of de novo institutions in meeting their business plans and underlying strategic objectives. These reviews also include consideration of whether the banks have complied with any other conditions imposed as part of licensing. After the de novo period, changes in a bank’s activities, if permissible under state and federal law, are subject to review during periodic safety-and-soundness examinations. In addition, de novo banks are required to give the FDIC prior notice of any change to the bank’s business plan during the first three years of operation. As a condition of deposit insurance, the FDIC requires de novo state nonmember banks to submit pro forma financial statements and a business plan for operating years four through seven or longer, if deemed appropriate, before the end of the bank’s third year of operation. The FDIC monitors compliance with such plans during the annual examination process and requires prior non-objection for any material deviations from or material changes to the plan. Based on experience in the financial crisis, when a number of de novo banks failed in their fourth to eighth years, the FDIC has stepped up the intensity of its supervision of de novo banks and, as noted in EC 6, has extended the period of application of the minimum leverage ratio of 8 percent. |
| Assessment of Principle 5 | Compliant |
| Comments | Under the U.S. dual banking structure, banks may in principle choose to operate under a federal or state charter that b |