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1996 Annual Report
Supervision and Enforcement
The FDIC at year-end 1996 was the primary federal regulator of 5,785 state-chartered banks that are not members of the Federal Reserve System and 590 state-chartered savings banks. The FDIC also has back-up supervisory responsibility for insurance purposes over the remaining 5,077 federally insured banks and savings associations. The Division of Supervision (DOS) leads the FDICs supervisory efforts in conjunction with other divisions and offices. This is accomplished by examining institutions, developing regulations and issuing enforcement actions. The examination and supervision of institutions also includes on-site examinations and off-site analyses to detect poor risk management or excessive risk-taking by institutions before problems occur.
Given the continued good health of the banking industry in 1996, the FDIC took the opportunity to initiate a number of projects to enhance the supervisory process and reduce the regulatory burden on the industry.
The FDIC continued to develop a more dynamic supervisory approach that combines traditional examination methods with new initiatives. In 1996, DOS reorganized its operations, continued automating its examination function, developed new examination procedures and supervisory policies for emerging technologies, and focused on interest rate risk.
Consolidation in the banking industry is changing the geographic composition of the industry. In response, DOS is making changes in its field structure and its approach to examinations. Of particular interest is the start of a case manager approach to supervision, first announced in 1995. Under this approach, case managers will oversee all the risk analysis and examination functions for an entire bank or banking company, regardless of the number of regions where its subsidiary banks and branches operate. Previously, supervision of multi-state banking organizations was broken down by geographic region, with the possibility of more than one FDIC regional office responsible for oversight of the organization. The new approach makes monitoring of banks and their affiliates more effective and efficient, and provides institutions and other regulators with a single point of contact when dealing with the FDIC. The case manager will be assisted by a core group of specialists with expertise in six areas: information systems, trusts, capital markets, accounting, fraud and investigations, and training.
As part of the preparation for interstate banking, the FDIC continued to participate in a State-Federal Working Group on Interstate Supervision. Other members of the group include the Federal Reserve System and state regulators, under the sponsorship of the Conference of State Bank Supervisors. The working groups purpose is to minimize conflicts and duplication among state and federal regulators in the supervision of state-chartered banks that operate in more than one state. The group is working toward shared technologies and common application forms. Also in 1996, the FDIC and Federal Reserve signed an agreement with all the state banking departments concerning federal-state cooperation and coordination.
In addition to the challenges and opportunities of consolidation and interstate banking, the industry is becoming more global. In response, DOS created an international branch that consolidates into one unit the FDICs functions and expertise involving foreign banks. The branch will intensify the FDICs focus on international bank supervisory matters while enabling better coordination with other agencies and greater involvement in the international Basle Committee on Banking Supervision. The unit will monitor the activities of foreign banks operating in the U.S. and the activities of U.S. banks operating abroad. Foreign banks operating in the U.S. are a significant presence and monitoring these institutions is a key responsibility of the branch. At year-end 1996, foreign banking organizations operating in this country had more than $1 trillion in assets, almost one-fifth of the total assets in the U.S. banking industry.
DOS continued development of automation tools that will enable examiners to conduct a significant amount of analysis off-site, thereby minimizing examiner time spent in a financial institution. The Automated Loan Examination Review Tool (ALERT), a software package in use since May after being field tested in late 1995, gives examiners the ability to collect loan data from institutions electronically, load the information into an application and select loans for on-site review. While ALERT enhances the review of a banks loan portfolio, the FDIC is developing the General Examination System (GENESYS) to automate the preparation of the entire examination report. As now envisioned, the GENESYS software package would allow examiners to access electronically financial information and prior examination reports of an institution for use in the current examination report, automate certain loan review functions, provide earnings analysis and forecasting, and automate securities pricing. It also will provide examiners with enhanced dial-in capability to access the FDIC mainframe computer and the Internet, enabling staff to communicate more readily and to access information not previously available. The GENESYS system is expected to be in use in early 1998.
In addition to automating portions of the review process, the FDIC has taken a number of steps to improve the quality and efficiency of examinations. The FDIC now provides a minimum two-week notice of an upcoming safety and soundness examination to bankers and savings association executives. This advance notice gives bankers more time to prepare for an examination and to respond to pre-examination requests for information from the FDIC. Also, certain traditionally on-site examination procedures (such as the review of written policies and procedures, the reconciliation of major asset and liability categories and the verification of key financial data) are now being conducted off-site. In 1996, about 30 percent of the total examination hours were spent outside of banks, compared to 12 percent two years ago. The FDIC also is minimizing the rotation of examiners to other jobs during the examination of an institution, thereby reducing the disruptions to institutions during an on-site examination.
In 1996, the FDIC and the other federal banking agencies issued a joint policy statement providing guidance on managing interest rate risk. The policy statement emphasizes each institutions responsibility to develop and refine management practices that are appropriate and effective for its exposure to changes in interest rates. The agencies elected not to pursue a standardized measure and explicit capital charge for interest rate risk due to concerns about the burden, accuracy and complexity of that kind of approach. However, in conjunction with the joint policy statement, the FDIC issued new procedures for examining interest rate risk. These procedures will more clearly focus supervisory attention on institutions with higher potential risk profiles and, for the majority of small institutions, shift a significant portion of the interest rate risk examination off-site.
DOS also continued creating decision flow charts for examiners to use when reviewing other major risk areas, such as loans, securities, earnings performance, funds management and management performance. The new examination guidelines provide specific management and control standards that financial institutions are expected to maintain. The decision flow charts are designed so that an examiner can work through a core analysis to determine the presence of significant risks or deficiencies. If the examiner determines that risks are not adequately managed, then the scope of the examination would be expanded. This format focuses examiners on key aspects of risk assessment and provides standard procedures for efficiency and consistency.
DOS has taken steps to identify and monitor risk associated with emerging technologies, such as Internet banking, electronic cash and stored-value card systems. New examination procedures on electronic banking were developed in 1996 and implemented in May 1997 after examiner training on pertinent risks and issues. Since 1995, the FDIC has sponsored an interagency working group that shares information and ideas on supervisory issues relating to electronic banking.
The FDIC and the other banking regulators in December approved a change to the Uniform Financial Institution Rating System (UFIRS), commonly referred to as the CAMEL system, used to rate the condition of banks. CAMEL originally was comprised of five componentscapital, asset quality, management, earnings and liquidity. The revision adds a sixth component S for sensitivity to market risks. This change marks the first major revision to the rating system since it was adopted in 1979.
In October, the FDIC became the first of the federal banking regulators to disclose to a bank its rating for each CAMEL component. Previously, only the overall or composite rating for the entire institution was disclosed to the institutions board of directors. Starting in 1997, the FDIC also will begin to reveal the new S component to FDIC-supervised institutions. The other regulators plan to disclose the individual components to their institutions as well.
Throughout 1996, DOS stepped up efforts to gather and analyze information about loan underwriting practices by having FDIC examiners complete a special questionnaire after each examination. This process, started in 1995, is designed to help the FDIC monitor emerging risks in the banking system, identify troublesome underwriting trends across the country and direct supervisory efforts. The results of the questionnaires are expected to be released twice a year. Few problems were noted in 1996. DOS is actively monitoring potential problem areas.
The FDIC published in May an Advance Notice of Proposed Rulemaking seeking industry opinion on restructuring and streamlining banking agency regulations for securities transactions. Several actions resulted. For example, the FDIC and the other banking agencies issued a proposed rule in December that would require bank employees who sell securities to take the same qualification examination as other brokers. The FDIC also began field testing new examination procedures for reviewing whether proper disclosures about nondeposit investment products are being given to customers. For more information on the sale of mutual funds at banks, click here.
DOS also has developed a partnership with the Division of Insurance (DOI), which was created by the Board in 1995 to analyze risks to the deposit insurance funds from a more comprehensive perspective than in the past. DOI identifies and monitors emerging and existing risks by drawing on a wide variety of sources of information, including other FDIC divisions, other bank regulatory agencies, other government economic statistics and analyses, and data from the private sector. DOI then works with DOS to translate the results into guidance for FDIC examiners. Under the agencys risk-related premium system, managed by DOI, the CAMEL ratings assigned by DOS are an important component for determining the premium rates paid by insured institutions.
In addition, the FDICs Division of Research and Statistics (DRS), in cooperation with other divisions and offices, continued a major study of the 1980s and early 1990s that focuses on the causes of bank failures. The study, expected to be issued in late 1997, analyzes the effectiveness of regulatory tools designed to prevent bank failures and limit insurance losses. (The study was the subject of an FDIC-sponsored symposium on January 16, 1997, with academic and other participants.) Using data and information developed for the study, DRS is assisting DOS in developing new warning systems and new modeling tools for predicting problem institutions and failures.
The Riegle Community Development and Regulatory Improvement Act of 1994 (CDRI) requires an interagency effort to reduce the cost and burden of regulations on the banking industry. As part of that effort, the FDIC reviewed 120 rules and policy statements to determine whether they are necessary to ensure a safe and sound banking system or to protect consumers. Under the leadership of FDIC Board member Joseph H. Neely, the Office of Policy Development and the Office of the Executive Secretary, the FDICs regulatory review during 1995 and 1996 resulted in staff recommendations to rescind or revise 71 percent of the 120 internal and interagency regulations and policy statements. Specific recommendations from 1996 included:
The FDIC expects to complete its recommendations on the remainder of the regulations and policy statements by September of 1997. The FDIC, along with the Federal Reserve Board, the Office of the Comptroller of the Currency and the Office of Thrift Supervision, submitted a Joint Report to Congress in September 1996 detailing the progress made in the review effort. For more information on regulatory action taken in 1996, click here.
DOS works closely with the Legal Division to initiate supervisory enforcement actions against FDIC-supervised institutions and their employees. The number of enforcement actions initiated by the FDIC in 1996 totaled 186, about half the 356 actions initiated just five years ago. This is indicative of continued improvement in the banking industry. Another sign of the improved conditions in the banking industry is that, for the second straight year, no prompt corrective actions (such as early intervention when an insured institutions capital condition is eroding) were initiated by the FDIC.
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