In a speech last week at a derivatives conference sponsored by her agency, Federal Deposit Insurance Corp. Chairman Ricki Helfer spoke of a new emphasis on risk management in bank examinations. What follows is excerpted from that speech.
The Federal Deposit Insurance Corp. - and our sister agencies the Federal Reserve Board, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision - generate a treasury of data on the banking and thrift industries as a byproduct of regulatory and monetary policy functions. We also have an abundance of economic expertise.
Historically, however, we have found it difficult to bridge the gap that separates the macro from the micro perspective, to translate the data into directions that examiners can use in institutions with differing levels and types of risk exposures.
Leveraging our statistical and analytical resources will help examiners focus their efforts so they can increase the effectiveness of examinations and stay on-site only as long as necessary to address the risks that individual institutions present. It will also provide a basis for supervisory notices to banks on economic and other macro trends that may affect the way that they do business.
As part of the effort to close the gap, the FDIC's Division of Supervision is developing ways to factor economic data into the process of risk analysis. For example, one of our projects seeks to provide our examiners with a structured and consistent approach to identifying and quantifying the level and trends of risk, while encouraging analytical thinking.
Economic data would provide contexts to the examiner in addressing such questions as: "Is this bank's balance sheet structure short term in nature?" and "Do earnings and capital mitigate interest rate or other risk concerns?"
A key consideration in this work is that, while our goal is to develop a system that provides structure and consistency, we encourage examiners to think analytically, as opposed to adherence to arbitrary parameters. A simple example: We do not want a structured system for credit risk, say, that has a decision point that states: "Is the level of nonperforming loans less than x percent? If so, no further action is necessary."
We do want a decision point that states: "Is the level of nonperforming loans increasing, decreasing or stable?" This type of decision ensures that nonperforming levels and trends are included in the analysis of credit risk, and serve as a "talking point" with the bank.
In short, using this approach, the scope and focus of our bank examinations will become more a flow of risk evaluations - some based on economic data - and less a checklist of procedures to be followed.
This shifting of emphasis toward risk assessment, of course, is not completely new at any of the bank regulatory agencies. These concepts have been developed on an interagency basis over time.
The traditional Camel rating system involves risk analysis. The analysis, however, is not as systematic as it could or should be. It can vary by examiner, the field office or the regional office, or across the banking agencies. I do not think that we should scrap the Camel rating system - although we may want to produce the next generation of Camel. Its contribution has been in providing a bank's management and its board of directors with a context in which to judge an institution's performance against a benchmark standard, as well as serving as the strongest predictor we have now of a bank's likelihood of failure, even if the lead time is not always as great as we would like.
I believe the system would be improved if our examiners disclosed the individual component ratings of the overall Camel rating of an institution to its management and board of directors - as 12 states currently do. I believe it would put boards of directors on notice of problems in individual components before an overall rating drops and it may add more discipline to board review of the management of individual banks.