The Federal Reserve has supervisory and regulatory authority over a variety of financial institutions and activities. It plays an important role as umbrella supervisor of bank holding companies, including financial holding companies. And it is the primary federal supervisor of state banks that are members of the Federal Reserve System.
U.S. bank holding companies and state member banks continued to face substantial challenges in 2008, exacerbated by problems in funding and capital markets as well as the ongoing economic slowdown. Bank holding company asset quality and earnings continued their deterioration over the course of the year, in part due to ongoing problems linked to the residential housing market. The effects of the substantial challenges facing the banking industry were revealed in bank holding companies' reported net losses of $27 billion for the full year. Nonperforming assets increased notably as the quality of various types of assets declined, and overall loan delinquencies increased. As in 2007, several institutions recognized significant valuation writedowns on assets affected by market conditions. Liquidity and capital continued to be strained. Some institutions received federal government assistance in the form of capital injections via the Treasury's Troubled Asset Relief Program, and many others drew on Federal Reserve liquidity facilities to a considerable degree. While regulatory capital ratios suffered some erosion over 2008, bank holding companies in general continued to maintain ratios in excess of minimum regulatory requirements.
State member banks faced challenges similar to those faced by bank holding companies in 2008. As a group, they suffered net losses of $3.2 billion, reflecting asset write-downs and higher loan-loss provisions. Credit quality indicators worsened further during the year, with additional increases in nonperforming loans and delinquencies. Charge-off ratios reached their highest level in over a decade. Risk-based capital ratios increased somewhat over the year; at year-end more than 98 percent of all state member banks continued to report capital ratios consistent with a "well capitalized" designation under prompt corrective action standards. One state member bank, with assets of $237.5 million, failed.
During 2008, the Federal Reserve undertook a range of activities to identify and correct some of the risk-management weaknesses revealed by the financial crisis that began in mid-2007. These supervisory activities covered a number of areas, including firmwide risk identification and senior management oversight. Liquidity risk management and capital adequacy were given special attention. Where institutions did not make appropriate progress, supervisors downgraded supervisory ratings and used enforcement tools to bring about corrective action. In addition, the Federal Reserve undertook a Systemwide effort to identify lessons learned for supervisors and to begin developing recommendations for potential improvements to supervisory practices. The objective of the lessons learned process is to improve all aspects of the supervisory process, including oversight of individual institutions and promotion of overall financial stability. The lessons-learned process, which will continue into 2009, has drawn on staff from around the Federal Reserve System, including presidents and members of the boards of directors of the Reserve Banks.
In 2008, banking supervisors continued to focus on the adequacy of banks' credit-risk management practices and the important role banks play in credit intermediation. The Federal Reserve issued two statements emphasizing the critical role that banking organizations have in U.S. credit markets and encouraging those organizations to pursue responsible lending activities as they meet the credit needs of households and businesses. Also, the Federal Reserve, Federal Deposit Insurance Corporation (FDIC), and Office of the Comptroller of the Currency (OCC) jointly issued revisions to the Guide to the Interagency Country Exposure Review Committee Process to reflect improvements in regulated institutions' analyses of cross-border-exposure and country risk management programs and the increased availability of information on country and transfer risk. In addition, the Federal Reserve, FDIC, OCC, Office of Thrift Supervision (OTS), and National Credit Union Administration (NCUA) jointly issued for comment proposed Interagency Appraisal and Evaluation Guidelines to reaffirm supervisory expectations for sound practices in appraising and evaluating real estate.
Federal Reserve staff continued to work with the other federal banking agencies to implement the advanced approaches of the Basel II Capital Accord in the United States, with the final rule taking effect on April 1, 2008.1 Institutions may begin transitioning to the new rules after they adopt an implementation plan and have in place systems that comply with the final rule's qualification requirements. In January 2008, the agencies published final reporting requirements and reporting templates for institutions that will be adopting the Basel II advanced approaches. In light of identified supervisory lessons learned, the Federal Reserve plans to augment its processes for conducting examinations and inspections as needed, as well as its processes for ensuring that there is appropriate follow-up with institutions about issues identified during examinations and inspections.
The Federal Reserve is the federal supervisor and regulator of all U.S. bank holding companies, including financial holding companies formed under the authority of the 1999 Gramm-Leach-Bliley Act, and state-chartered commercial banks that are members of the Federal Reserve System. In overseeing these organizations, the Federal Reserve seeks primarily to promote their safe and sound operation, including their compliance with laws and regulations.
The Federal Reserve also has responsibility for supervising the operations of all Edge Act and agreement corporations, the international operations of state member banks and U.S. bank holding companies, and the U.S. operations of foreign banking organizations.
The Federal Reserve exercises important regulatory influence over entry into the U.S. banking system, and the structure of the system, through its administration of the Bank Holding Company Act, the Bank Merger Act (with regard to state member banks), the Change in Bank Control Act (with regard to bank holding companies and state member banks), and the International Banking Act. The Federal Reserve is also responsible for imposing margin requirements on securities transactions. In carrying out these responsibilities, the Federal Reserve coordinates its supervisory activities with the other federal banking agencies, state agencies, functional regulators (that is, regulators for insurance, securities, and commodities firms), and the bank regulatory agencies of other nations.
To promote the safety and soundness of banking organizations, the Federal Reserve conducts on-site examinations and inspections and off-site surveillance and monitoring. It also takes enforcement and other supervisory actions as necessary.
The Federal Reserve conducts examinations of state member banks, the U.S. branches and agencies of foreign banks, and Edge Act and agreement corporations. In a process distinct from examinations, it conducts inspections of bank holding companies and their nonbank subsidiaries. Whether an examination or an inspection is being conducted, the review of operations entails (1) an evaluation of the adequacy of governance provided by the board and senior management, including an assessment of internal policies, procedures, controls, and operations; (2) an assessment of the quality of the risk-management and internal control processes in place to identify, measure, monitor, and control risks; (3) an assessment of the key financial factors of capital, asset quality, earnings, and liquidity; and (4) a review for compliance with applicable laws and regulations. The table provides information on examinations and inspections conducted by the Federal Reserve during the past five years.
Inspections of bank holding companies, including financial holding companies, are built around a rating system introduced in 2005 that reflects the shift in supervisory practices away from a historical analysis of financial condition toward a more dynamic, forward looking assessment of risk-management practices and financial factors. Under the system, known as RFI but more fully termed RFI/C(D), holding companies are assigned a composite rating (C) that is based on assessments of three components: Risk Management (R), Financial Condition (F), and the potential Impact (I) of the parent company and its nondepository subsidiaries on the subsidiary depository institution.2 The fourth component, Depository Institution (D), is intended to mirror the primary supervisor's rating of the subsidiary depository institution.
The Federal Reserve uses a risk-focused approach to supervision, with activities focused on identifying the areas of greatest risk to banking organizations and assessing the ability of the organizations' management processes for identifying, measuring, monitoring, and controlling those risks. Key aspects of the risk-focused approach to consolidated supervision of large complex banking organizations (LCBOs) include (1) developing an understanding of each LCBO's legal and operating structure, and its primary strategies, business lines, and risk-management and internal control functions; (2) developing and executing a tailored supervisory plan outlining the work required to maintain a comprehensive understanding and assessment of each LCBO, incorporating reliance to the fullest extent possible on assessments and information developed by other relevant domestic and foreign supervisors and functional regulators; (3) maintaining continual supervision of these organizations--including through meetings with banking organization management and analysis of internal and external information--so that the Federal Reserve's understanding and assessment of each organization's condition remains current; (4) assigning to each LCBO a supervisory team composed of Reserve Bank staff members who have skills appropriate for the organization's risk profile (the team leader is the Federal Reserve System's central point of contact for the organization, has responsibility for only one LCBO, and is supported by specialists capable of evaluating the risks of LCBO business activities and functions and assessing the LCBO's consolidated financial condition); and (5) promoting Systemwide and interagency information-sharing through automated systems and other mechanisms (see box "Enhanced Guidance for the Consolidated Supervision of Bank Holding Companies and the Combined U.S. Operations of Foreign Banking Organizations").
|State member banks|
|Total assets (billions of dollars)||1,854||1,519||1,405||1,318||1,275|
|Number of examinations||717||694||761||783||809|
|By Federal Reserve System||486||479||500||563||581|
|By state banking agency||231||215||261||220||228|
|Top-tier bank holding companies|
|Large (assets of more than $1 billion)|
|Total assets (billions of dollars)||14,138||13,281||12,179||10,261||8,429|
|Number of inspections||519||492||566||501||500|
|By Federal Reserve System1||500||476||557||496||491|
|By state banking agency||19||16||9||5||9|
|Small (assets of $1 billion or less)|
|Total assets (billions of dollars)||1,008||974||947||890||852|
|Number of inspections||3,192||3,186||3,449||3,420||3,703|
|By Federal Reserve System||3,048||3,007||3,257||3,233||3,526|
|By state banking agency||144||179||192||187||177|
|Financial holding companies|
1. For large bank holding companies subject to continuous, risk-focused supervision, includes multiple targeted reviews. Return to table
For other banking organizations, the risk-focused consolidated supervision program provides that examination and inspection procedures are tailored to each banking organization's size, complexity, risk profile, and condition. As with the LCBOs, these supervisory programs entail both off-site and onsite work, including planning, preexamination visits, detailed documentation, and examination reports tailored to the scope and findings of the examination.
At the end of 2008, 862 state-chartered banks (excluding nondepository trust companies and private banks) were members of the Federal Reserve System. These banks represented approximately 12 percent of all insured U.S. commercial banks and held approximately 15 percent of all insured commercial bank assets in the United States.
The guidelines for Federal Reserve examinations of state member banks are fully consistent with section 10 of the Federal Deposit Insurance Act, as amended by section 111 of the Federal Deposit Insurance Corporation Improvement Act of 1991 and by the Riegle Community Development and Regulatory Improvement Act of 1994. A full-scope, on-site examination of these banks is required at least once a year, although certain well-capitalized, well-managed organizations having total assets of less than $500 million may be examined once every 18 months.3 The Federal Reserve conducted 486 exams of state member banks in 2008.
At year-end 2008, a total of 5,757 U.S. bank holding companies were in operation, of which 5,030 were top-tier bank holding companies. These organizations controlled 5,893 insured commercial banks and held approximately 97 percent of all insured commercial bank assets in the United States.
Federal Reserve guidelines call for annual inspections of large bank holding companies and complex smaller companies. In judging the financial condition of the subsidiary banks owned by holding companies, Federal Reserve examiners consult examination reports prepared by the federal and state banking authorities that have primary responsibility for the supervision of those banks, thereby minimizing duplication of effort and reducing the supervisory burden on banking organizations. Noncomplex bank holding companies with consolidated assets of $1 billion or less are subject to a special supervisory program that permits a more flexible approach.4 In 2008, the Federal Reserve conducted 500 inspections of large bank holding companies and 3,048 inspections of small, noncomplex bank holding companies.
This guidance should not only provide greater clarity regarding our longstanding responsibilities as a consolidated supervisor, but is also responsive to ongoing developments in the financial sector. The objectives of fostering financial stability and deterring or managing financial crises will be furthered by the Federal Reserve having a more complete view of firmwide risks and controls.
Randall S. Kroszner, Member, Board of Governors
The continuing growth and increased complexity of many banking organizations exposes these firms to a wide array of potential risks, and financial trouble in one part of an organization can spread rapidly to other parts of the organization. Moreover, because large banking organizations increasingly operate with multiple domestic and foreign banking and nonbanking entities, but operate and manage their businesses on an integrated basis, a single supervisor of a particular legal entity is unlikely to have a complete view of firmwide risks and controls.
In response to these trends, and to better fulfill both its supervisory responsibilities and its other central bank objectives such as fostering financial stability and deterring or managing financial crises, the Federal Reserve on October 16, 2008, issued guidance refining and clarifying its programs for the consolidated supervision of bank holding companies (including financial holding companies) and the combined U.S. operations of foreign banking organizations.1
The Federal Reserve has a longstanding responsibility for the consolidated supervision of U.S. bank holding companies (including financial holding companies). Consolidated supervision, which encompasses the parent holding company and its subsidiaries, enables the Federal Reserve to understand the organization's structure, activities, resources, and risks and to address any deficiencies before they pose a danger to the holding company's subsidiary depository institutions. In addition to its role as consolidated supervisor, the Federal Reserve is responsible for the overall supervision of the U.S. operations of foreign banking organizations. Fundamental to the effectiveness of the Federal Reserve as consolidated supervisor is coordination with, and reliance on, the work of other relevant domestic and foreign bank supervisors and functional regulators (that is, a federal or state regulator of a functionally regulated nondepository subsidiary of a bank holding company or foreign banking organization, such as the Securities and Exchange Commission).
While the effort to enhance and clarify the Federal Reserve's approach to consolidated supervision began well before the recent period of considerable strain in financial markets, the enhanced approach set forth in the guidance emphasizes several elements that should support a more resilient financial system. These include, among other things, greater focus on corporate governance, capital adequacy, funding and liquidity management, and the supervision of nonbank subsidiaries.
The guidance specifies principal areas of focus for consolidated supervision activities and provides for more-consistent Federal Reserve supervisory practices and assessments across institutions having similar activities and risks. It sets forth specific expectations for supervisors to use when assessing primary governance functions, risk controls, and business lines; nonbank operations; and other key activities and risks, with added emphasis on risk-management systems and internal controls used by bank holding companies and foreign banking organizations that provide core clearing and settlement services or have a significant presence in critical financial markets. In addition, the guidance discusses unique aspects of supervising the combined U.S. operations of foreign banking organizations.
For each bank holding company and foreign banking organization, the Federal Reserve (1) maintains an understanding of key elements of the organization's strategy, structure, business lines, framework for governance and internal control, presence in the financial markets, and primary sources of revenue and risk, and (2) assesses the effectiveness of the organization's risk-management systems and controls in accounting for the main risks inherent in the organization's activities, its financial condition, and the potential negative impact of nonbank operations on affiliated depository institutions. The Federal Reserve takes a systematic approach to developing these assessments, as reflected in the RFI (Risk management, Financial condition, and Impact) rating assigned to bank holding companies and the combined U.S. operations rating assigned to foreign banking organizations having multiple U.S. operations.
While the Federal Reserve's supervisory objectives are the same for all bank holding companies and foreign banking organizations, the amount and nature of the supervisory and examination work necessary to understand, supervise, and develop an assessment of an individual organization varies. Supervisory activities are tailored for each organization on the basis of a variety of factors, including the nature and degree of involvement by other supervisors and regulators; the risks posed by the organization's specific activities and systems; and the potential effect of weaknesses in control functions on the organization, its subsidiary depository institutions, or key financial markets. For example, additional supervisory activities may be conducted if there are gaps in information relating to significant risks or activities, indications of weaknesses in risk-management systems or internal controls, or indications of violations of consumer protection or other laws, or if a consolidated organization or subsidiary depository institution is in less-than-satisfactory condition.
An important aspect of the Federal Reserve's consolidated supervision programs for bank holding companies and foreign banking organizations is the assessment and evaluation of practices across groups of organizations having similar characteristics and risk profiles. This "portfolio approach" facilitates consistency of supervisory practices and assessments across comparable organizations and improves the Federal Reserve's ability to identify outlier organizations among established peer groups. Because the Federal Reserve's supervisory activities are tailored to specific institutions and portfolios, separate guidance documents were issued for different supervisory portfolios to promote appropriate and consistent supervision of organizations.
The nature and scope of the independent Federal Reserve supervisory work required to develop and maintain this understanding and assessment depends largely on the extent to which the Federal Reserve can draw on information or assessments from other bank supervisors or functional regulators. Understanding and assessing some areas--such as the risk management and financial condition of significant nonbank subsidiaries that are not functionally regulated--will, by their nature, typically require more independent Federal Reserve supervisory work. Understanding and assessing other areas--such as firmwide risk-management and control functions--typically will require a greater degree of coordination with other bank supervisors or functional regulators.
1. See SR letter 08-9/CA letter 08-12, "Consolidated Supervision of Bank Holding Companies and the Combined U.S. Operations of Foreign Banking Organizations."Return to text
Under the Gramm-Leach-Bliley Act, bank holding companies that meet certain capital, managerial, and other requirements may elect to become financial holding companies and thereby engage in a wider range of financial activities, including full-scope securities underwriting, merchant banking, and insurance underwriting and sales. The statute streamlines the Federal Reserve's supervision of all bank holding companies, including financial holding companies, and sets forth parameters for the supervisory relationship between the Federal Reserve and other regulators. The statute also differentiates between the Federal Reserve's relations with regulators of depository institutions and its relations with functional regulators.
As of year-end 2008, 557 domestic bank holding companies and 45 foreign banking organizations had financial holding company status. Of the domestic financial holding companies, 33 had consolidated assets of $15 billion or more; 128, between $1 billion and $15 billion; 87, between $500 million and $1 billion; and 309, less than $500 million.
The Federal Reserve supervises the foreign branches and overseas investments of member banks, Edge Act and agreement corporations, and bank holding companies and also the investments by bank holding companies in export trading companies. In addition, it supervises the activities that foreign banking organizations conduct through entities in the United States, including branches, agencies, representative offices, and subsidiaries.
In supervising the international operations of state member banks, Edge Act and agreement corporations, and bank holding companies, the Federal Reserve generally conducts its examinations or inspections at the U.S. head offices of these organizations, where the ultimate responsibility for the foreign offices lies. Examiners also visit the overseas offices of U.S. banks to obtain financial and operating information and, in some instances, to evaluate the organizations' efforts to implement corrective measures or to test their adherence to safe and sound banking practices. Examinations abroad are conducted with the cooperation of the supervisory authorities of the countries in which they take place; for national banks, the examinations are coordinated with the OCC.
At the end of 2008, 53 member banks were operating 545 branches in foreign countries and overseas areas of the United States; 32 national banks were operating 495 of these branches, and 21 state member banks were operating the remaining 50. In addition, 20 nonmember banks were operating 26 branches in foreign countries and overseas areas of the United States.
Edge Act corporations are international banking organizations chartered by the Board to provide all segments of the U.S. economy with a means of financing international business, especially exports. Agreement corporations are similar organizations, state chartered or federally chartered, that enter into an agreement with the Board to refrain from exercising any power that is not permissible for an Edge Act corporation.
Sections 25 and 25A of the Federal Reserve Act grant Edge Act and agreement corporations permission to engage in international banking and foreign financial transactions. These corporations, most of which are subsidiaries of member banks, may (1) conduct a deposit and loan business in states other than that of the parent, provided that the business is strictly related to international transactions, and (2) make foreign investments that are broader than those permissible for member banks.
At year-end 2008, 60 banking organizations, operating 11 branches, were chartered as Edge Act or agreement corporations. These corporations are examined annually.
The Federal Reserve has broad authority to supervise and regulate the U.S. activities of foreign banks that engage in banking and related activities in the United States through branches, agencies, representative offices, commercial lending companies, Edge Act corporations, commercial banks, bank holding companies, and certain nonbanking companies. Foreign banks continue to be significant participants in the U.S. banking system.
As of year-end 2008, 175 foreign banks from 53 countries were operating 208 state-licensed branches and agencies, of which 6 were insured by the FDIC, and 45 OCC-licensed branches and agencies, of which 4 were insured by the FDIC. These foreign banks also owned 12 Edge Act and agreement corporations and 2 commercial lending companies; in addition, they held a controlling interest in 61 U.S. commercial banks. Altogether, the U.S. offices of these foreign banks at the end of 2008 controlled approximately 18 percent of U.S. commercial banking assets. These 175 foreign banks also operated 95 representative offices; an additional 54 foreign banks operated in the United States through a representative office.
State-licensed and federally licensed branches and agencies of foreign banks are examined on-site at least once every 18 months, either by the Federal Reserve or by a state or other federal regulator. In most cases, on-site examinations are conducted at least once every 12 months, but the period may be extended to 18 months if the branch or agency meets certain criteria.
In cooperation with the other federal and state banking agencies, the Federal Reserve conducts a joint program for supervising the U.S. operations of foreign banking organizations. The program has two main parts. One part involves examination of those foreign banking organizations that have multiple U.S. operations and is intended to ensure coordination among the various U.S. supervisory agencies. The other part is a review of the financial and operational profile of each organization to assess its general ability to support its U.S. operations and to determine what risks, if any, the organization poses through its U.S. operations. Together, these two processes provide critical information to U.S. supervisors in a logical, uniform, and timely manner. The Federal Reserve conducted or participated with state and federal regulatory authorities in 487 examinations in 2008.
The Federal Reserve examines supervised institutions for compliance with a broad range of legal requirements, including anti-money-laundering and consumer protection laws and regulations, and other laws pertaining to certain banking and financial activities. Most compliance supervision is conducted under the oversight of the Board's Division of Banking Supervision and Regulation, but consumer compliance supervision is conducted under the oversight of the Division of Community and Consumer Affairs. The two divisions coordinate their efforts with each other and also with the Board's Legal Division to ensure consistent and comprehensive Federal Reserve supervision for compliance with legal requirements.
U.S. Department of the Treasury regulations implementing the Bank Secrecy Act (BSA) generally require banks and other types of financial institutions to file certain reports and maintain certain records that are useful in criminal or regulatory proceedings. The BSA and separate Board regulations require banking organizations supervised by the Board to file reports on suspicious activity related to possible violations of federal law, including money laundering, terrorism financing, and other financial crimes. In addition, BSA and Board regulations require that banks develop written BSA compliance programs and that the programs be formally approved by bank boards of directors. The Federal Reserve is responsible for examining its supervised institutions for compliance with applicable anti-money-laundering laws and regulations and conducts such examinations in accordance with the Federal Financial Institutions Examination Council (FFIEC) Bank Secrecy Act/Anti-Money Laundering Examination Manual.5
The Federal Reserve conducts specialized examinations of banking organizations in the areas of information technology, fiduciary activities, transfer agent activities, and government and municipal securities dealing and brokering. The Federal Reserve also conducts specialized examinations of certain entities, other than banks, brokers, or dealers, that extend credit subject to the Board's margin regulations.
In recognition of the importance of information technology to safe and sound operations in the financial industry, the Federal Reserve reviews the information technology activities of supervised banking organizations as well as certain independent data centers that provide information technology services to these organizations. All safety and soundness examinations include a risk-focused review of information technology risk-management activities. During 2008, the Federal Reserve continued as the lead agency in two interagency examinations of large, multiregional data processing servicers and assumed leadership in two additional such examinations.
The Federal Reserve has supervisory responsibility for state member commercial banks and depository trust companies that together reported, at the end of 2008, $39 trillion of assets in various fiduciary or custodial capacities. Additionally, state member nondepository trust companies supervised by the Federal Reserve reported $28 trillion of assets held in a fiduciary or custodial capacity. During on-site examinations of fiduciary activities, an organization's compliance with laws, regulations, and general fiduciary principles and its potential conflicts of interest are reviewed; its management and operations, including its asset- and account-management, risk-management, and audit and control procedures, are also evaluated. In 2008, Federal Reserve examiners conducted 116 on-site fiduciary examinations.
As directed by the Securities Exchange Act of 1934, the Federal Reserve conducts specialized examinations of those state member banks and bank holding companies that are registered with the Board as transfer agents. Among other things, transfer agents countersign and monitor the issuance of securities, register the transfer of securities, and exchange or convert securities. On-site examinations focus on the effectiveness of an organization's operations and its compliance with relevant securities regulations. During 2008, the Federal Reserve conducted on-site examinations at 14 of the 62 state member banks and bank holding companies that were registered as transfer agents.
The Federal Reserve is responsible for examining state member banks and foreign banks for compliance with the Government Securities Act of 1986 and with Treasury regulations governing dealing and brokering in government securities. Twelve state member banks and 5 state branches of foreign banks have notified the Board that they are government securities dealers or brokers not exempt from Treasury's regulations. During 2008, the Federal Reserve conducted 2 examinations of broker-dealer activities in government securities at these organizations. These examinations are generally conducted concurrently with the Federal Reserve's examination of the state member bank or branch.
The Federal Reserve is also responsible for ensuring that state member banks and bank holding companies that act as municipal securities dealers comply with the Securities Act Amendments of 1975. Municipal securities dealers are examined pursuant to the Municipal Securities Rulemaking Board's rule G-16 at least once every two calendar years. Of the 12 entities that dealt in municipal securities during 2008, 5 were examined during the year.
Under the Securities Exchange Act of 1934, the Board is responsible for regulating credit in certain transactions involving the purchase or carrying of securities. As part of its general examination program, the Federal Reserve examines the banks under its jurisdiction for compliance with the Board's Regulation U (Credit by Banks and Persons other than Brokers or Dealers for the Purpose of Purchasing or Carrying Margin Stock). In addition, the Federal Reserve maintains a registry of persons other than banks, brokers, and dealers who extend credit subject to Regulation U. The Federal Reserve may conduct specialized examinations of these lenders if they are not already subject to supervision by the Farm Credit Administration (FCA) or the NCUA.
At the end of 2008, 580 lenders other than banks, brokers, or dealers were registered with the Federal Reserve. Other federal regulators supervised 191 of these lenders, and the remaining 389 were subject to limited Federal Reserve supervision. The Federal Reserve exempted 180 lenders from its on-site inspection program on the basis of their regulatory status and annual reports. Nonexempt lenders are subject to either biennial or triennial inspection. Sixty-four inspections were conducted during the year.
In 2008, the Federal Reserve continued its efforts to strengthen the resilience of the U.S. financial system in the event of unexpected disruptions. The Federal Reserve, together with other federal and state financial regulators, are members of the Financial Banking Information Infrastructure Committee (FBIIC), which was formed to improve coordination and communication among financial regulators, enhance the resilience of the U.S. financial sector, and promote the public/private partnership. The FBIIC has established emergency communication protocols to maintain effective communication among members in the event of an emergency. The FBIIC protocols were activated in 2008 at the time of the flooding in the Midwest, each time a significant hurricane made landfall in the United States, and at the time of the white powder HazMat incident.6
The Federal Reserve and the other FFIEC agencies continued in 2008 to coordinate their efforts to ensure a consistent supervisory approach in the area of business continuity practices. In March, the agencies published an update to the FFIEC Business Continuity Planning Booklet, which provides guidance to both examiners and the industry. The revised booklet expands discussions of business impact analysis and testing; discusses lessons learned in recent years, for example, lessons from Hurricanes Katrina and Rita; and provides a framework for financial institutions to develop or update their pandemic plans to address the unique business continuity challenges associated with a pandemic influenza outbreak. The booklet also stresses the responsibilities of each institution's board and management to address business continuity planning with an enterprise-wide perspective by considering technology, business operations, communications, and testing strategies for the entire institution.
The Federal Reserve has enforcement authority over the banking organizations it supervises and their affiliated parties. Enforcement actions may be taken to address unsafe and unsound practices or violations of any law or regulation. Formal enforcement actions include cease-and-desist orders, written agreements, removal and prohibition orders, and civil money penalties. In 2008, the Federal Reserve completed 54 formal enforcement actions. Civil money penalties totaling $32,790 were assessed, and an order of restitution totaling $203,923 was issued. As directed by statute, all civil money penalties are remitted to either the Treasury or the Federal Emergency Management Agency. Enforcement orders, which are issued by the Board, and written agreements, which are executed by the Reserve Banks, are made public and are posted on the Board's website.
In addition to taking these formal enforcement actions, the Reserve Banks completed 216 informal enforcement actions in 2008. Informal enforcement actions include memoranda of understanding and board of directors resolutions. Information about these actions is not available to the public.
The Federal Reserve uses automated screening systems to monitor the financial condition and performance of state member banks and bank holding companies between on-site examinations. Such monitoring and analysis helps direct examination resources to institutions that have higher risk profiles. Screening systems also assist in the planning of examinations by identifying companies that are engaging in new or complex activities.
The primary off-site monitoring tool used by the Federal Reserve is the Supervision and Regulation Statistical Assessment of Bank Risk model (SR-SABR). Drawing mainly on the financial data that banks report on their Reports of Condition and Income (Call Reports), SR-SABR uses econometric techniques to identify banks that report financial characteristics weaker than those of other banks assigned similar supervisory ratings. To supplement the SR-SABR screening, the Federal Reserve also monitors various market data, including equity prices, debt spreads, agency ratings, and measures of expected default frequency, to gauge market perceptions of the risk in banking organizations. In addition, the Federal Reserve prepares quarterly Bank Holding Company Performance Reports (BHCPRs) for use in monitoring and inspecting supervised banking organizations. The BHCPRs, which are compiled from data provided by large bank holding companies in quarterly regulatory reports (FR Y-9C and FR Y-9LP), contain, for individual companies, financial statistics and comparisons with peer companies. BHCPRs are made available to the public on the National Information Center (NIC) website , which can be accessed.
During 2008, four major upgrades to the web-based Performance Report Information and Surveillance Monitoring (PRISM) application were completed. PRISM is a querying tool used by Federal Reserve analysts to access and display financial, surveillance, and examination data. In the analytical module, users can customize the presentation of institutional financial information drawn from Call Reports, Uniform Bank Performance Reports, FR Y-9 statements, BHCPRs, and other regulatory reports. In the surveillance module, users can generate reports summarizing the results of surveillance screening for banks and bank holding companies. The upgrades made more regulatory data available for querying, gave users the ability to display more data on commercial real estate concentration ratios, and provided a way to access SEC Focus Report (Part II) data.
The Federal Reserve works through the FFIEC Task Force on Surveillance Systems to coordinate surveillance activities with the other federal banking agencies.
In 2008, the Federal Reserve continued to provide technical assistance on bank supervisory matters to foreign central banks and supervisory authorities. Technical assistance involves visits by Federal Reserve staff members to foreign authorities as well as consultations with foreign supervisors who visit the Board or the Reserve Banks. Technical assistance in 2008 was concentrated in Latin America, Asia, and former Soviet bloc countries. The Federal Reserve, along with the OCC, the FDIC, and the Treasury, was also an active participant in the Middle East and North Africa (MENA) Financial Regulators' Training Initiative, which is part of the U.S. government's Middle East Partnership Initiative. The Federal Reserve also contributes to the regional training provision under the Asia Pacific Economic Cooperation (APEC) Financial Regulators' Training Initiative.
During the year, the Federal Reserve offered a number of training courses exclusively for foreign supervisory authorities, both in the United States and in a number of foreign jurisdictions. System staff also took part in technical assistance and training missions led by the International Monetary Fund, the World Bank, the Asian Development Bank, the Basel Committee on Banking Supervision (Basel Committee), and the Financial Stability Institute.
The Federal Reserve is also an associate member of the Association of Supervisors of Banks of the Americas (ASBA), an umbrella group of bank supervisors from countries in the Western Hemisphere. The group, headquartered in Mexico, promotes communication and cooperation among bank supervisors in the region; coordinates training programs throughout the region, with the help of national banking supervisors and international agencies; and aims to help members develop banking laws, regulations, and supervisory practices that conform to international best practices. The Federal Reserve contributes significantly to ASBA's organizational management and to its training and technical assistance activities.
The Federal Reserve is committed to fostering the strength and vitality of the nation's minority and de novo depository institutions. In furtherance of this objective, during 2008 the Federal Reserve launched Partnership for Progress, a training and technical assistance program designed specifically for these institutions. The program seeks to help these institutions compete effectively in today's marketplace by offering them a combination of one-on-one guidance and targeted workshops on topics of particular relevance to starting and growing a bank in a safe and sound manner. In addition, training and information on resources are provided via an extensive web-based program center. Designated Partnership for Progress contacts in each of the twelve Reserve Bank Districts and at the Board answer questions and coordinate assistance for institutions requesting guidance. These contacts also host regional conferences and conduct other outreach activities within their Districts in support of minority and de novo institutions. The Reserve Banks hosted 14 such regional training sessions and conferences during the year.
The Federal Reserve has coordinated its efforts with those of the other agencies through participation in an annual interagency conference for minority depository institutions. For the federal bank regulatory agencies, the conference provides an opportunity to meet with senior managers from minority-owned institutions and gain a better understanding of the institutions' unique challenges and opportunities. In addition, the agencies offer training classes and breakout sessions on emerging banking issues.
During the year, the Federal Reserve, OCC, FDIC, and OTS issued a final rule, effective April 1, 2008, implementing the advanced approaches of Basel II. The advanced approaches framework is broadly consistent with the advanced approaches of the Basel II Capital Accord. It also includes a number of prudential safeguards--such as the requirement that banking organizations satisfactorily complete a four-quarter parallel run before operating under the advanced approaches framework--and transitional capital floors that limit maximum cumulative reductions of a banking organization's riskbased capital requirements over three transitional periods. It retains the long-standing minimum risk-based capital requirement of 4 percent tier 1 capital and 8 percent total qualifying capital relative to risk-weighted assets.7 Banking organizations subject to the framework are required to meet certain public disclosure requirements designed to foster transparency and market discipline.
Institutions may begin transitioning to the new advanced approaches after they adopt an implementation plan and have in place systems that comply with the rule's qualification requirements. Final reporting requirements and reporting templates for institutions that will be adopting the Basel II advanced approaches were also published in 2008. In June, the agencies issued a notice of proposed rulemaking to adopt the standardized approaches of the Basel II Capital Accord. The agencies are currently reviewing and considering the comments received. In addition, in July the U.S. banking agencies issued supervisory guidance relating to an aspect of the Basel II framework, known as Pillar 2, that requires banks to have a robust internal capital adequacy assessment process (ICAAP) that prescribes capital levels commensurate with their full risk profiles--levels above those prescribed by minimum regulatory measures.
The recent market turmoil has highlighted areas in which the Basel II Capital Accord must be strengthened, and efforts are under way to address those areas. Among the changes under consideration are higher capital requirements for re-securitizations, such as collateralized debt obligations backed by asset-backed securities. The capital treatment of liquidity facilities that support asset-backed commercial paper conduits is also under review. In addition, the current market risk capital framework for trading activities is being reexamined to better reflect potential exposures arising from the complex, less-liquid credit products that institutions hold in their trading portfolios. These changes, which are being developed by the Basel Committee, will be considered for implementation in the United States through the agencies' notice and comment process.
Also during the year, the federal banking and thrift regulatory agencies issued a final rule that permits a banking organization to reduce the amount of goodwill it must deduct from tier 1 capital by any associated deferred tax liability. Under the rule, the regulatory capital deduction for goodwill is equal to the maximum capital reduction that could occur as a result of a complete write-off of the goodwill under generally accepted accounting principles (GAAP).
In response to the recent market turmoil, the Federal Reserve, in some instances together with the other banking agencies, issued several rulemakings and guidance.
In 2008, Board staff conducted supervisory analyses of innovative capital instruments and novel transactions to determine whether the instruments qualify for inclusion in regulatory capital. Much of the work involved evaluating enhanced forms of trust preferred securities, mandatory convertible securities, perpetual preferred stock, and convertible perpetual preferred stock (mandatory and optionally convertible). Also, later in 2008 significant staff effort was devoted to working with Treasury staff to develop the Capital Purchase Program as part of the Troubled Asset Restructuring Program.
Staff members also identified and addressed supervisory concerns related to banking organizations' capital issuances and worked with the Reserve Banks to evaluate the overall composition of banking organizations' capital. As part of this process, the staff often must review the funding strategies proposed in applications for acquisitions and other transactions submitted to the Federal Reserve by banking organizations.
Also in 2008, the Board approved a policy statement that explains some of the most significant factors and principles considered when determining whether minority equity investments in a banking organization are "controlling" for purposes of the BHC Act. In assessing whether a minority equity investor has a controlling influence over the management or policies of the banking organization, all the facts and circumstances surrounding the investor's investment in, and relationship with, the banking organization will be considered, as well as the percentage of total equity owned.
The Federal Reserve strongly endorses sound corporate governance and effective accounting and auditing practices for all regulated financial institutions. Accordingly, the supervisory policy function is responsible for monitoring major domestic and international proposals, standards, and other developments affecting the banking industry in the areas of accounting, auditing, internal controls over financial reporting, financial disclosure, and supervisory financial reporting.
Federal Reserve staff members interact with key constituents in the accounting and auditing professions, including standard-setters, accounting firms, other financial sector regulators, accounting and banking industry trade groups, and the banking industry. These efforts help in understanding current practice and proposed standards and in formulating appropriate policy responses based on the potential impact of changes in standards or guidance, or other events, on financial institutions. As a consequence, Federal Reserve staff routinely provide informal input to standard-setters, as well as formal input through public comment letters on proposals, to ensure appropriate and transparent financial statement reporting. Supervisory guidance is also issued to financial institutions and supervisory staff by the Federal Reserve as appropriate. In addition, Federal Reserve policy staff support the efforts of the System and Reserve Banks in financial institution supervisory activities related to financial accounting, auditing, reporting, and disclosure.
During 2008, economic conditions resulted in accounting and reporting challenges for financial institutions. Addressing these challenges was a priority for Federal Reserve staff members. Significant issues arising from stressed market conditions included accounting for financial instruments at fair value, accounting for impairment in securities and other financial instruments, and analyzing proposals for modifying accounting for off-balance-sheet structures. Staff members participated in a number of discussions with accounting and auditing standard-setters and provided commentary on a number of proposals relevant to the banking industry. For example, they provided comment letters to the Financial Accounting Standards Board (FASB) on proposals related to accounting for transfers of financial assets, reducing complexity in reporting financial instruments, accounting for hedging activities, and impairment of certain beneficial interests.
Federal Reserve staff also participated in FASB and Securities and Exchange Commission (SEC) efforts to improve financial reporting and to consider accounting issues that have arisen during the global crisis, such as public roundtable discussions. A senior Federal Reserve representative was an official observer on the SEC Advisory Committee on Improvements to Financial Reporting, which was established to examine the U.S. financial reporting system with the goals of reducing unnecessary complexity and making information more useful and understandable for investors. In this role, senior staff participated in efforts that led to the issuance of the Final Report of the Advisory Committee on Improvements to Financial Reporting (2.70 MB PDF) provided to the SEC in August 2008. In addition, the SEC consulted with Federal Reserve staff, as required under section 133 of the Emergency Economic Stabilization Act, when preparing its Report on Mark-to-Market Accounting.
In 2008, the Federal Reserve provided training for staff on risk-focusing and the use of the FFIEC minimum Bank Secrecy Act/Anti-Money Laundering (BSA/AML) examination procedures in conjunction with broader efforts to increase consistency and address industry concerns about regulatory burden. The Federal Reserve participates in the FFIEC BSA/AML working group, which is a forum for the discussion of all pending BSA policy and regulatory matters, as well as the Treasury-led Bank Secrecy Act Advisory Group, which includes representatives of regulatory agencies, law enforcement, and the financial services industry and covers all aspects of the BSA.
The Federal Reserve and other federal banking agencies continued during 2008 to regularly share examination findings and enforcement proceedings with the Financial Crimes Enforcement Network (FinCEN) under the interagency memorandum of understanding (MOU) that was finalized in 2004, and with the Treasury's Office of Foreign Assets Control (OFAC) under the interagency MOU that was finalized in 2006.
The Federal Reserve participates in a number of international coordination initiatives related to sanctions, money laundering, and terrorism financing. For example, the Federal Reserve has a long-standing role in the U.S. delegation to the intergovernmental Financial Action Task Force and its working groups, contributing a banking supervisory perspective to formulation of international standards on these matters.
The Federal Reserve also continues to contribute to international efforts to promote transparency and address risks faced by financial institutions involved in international funds transfers. The Federal Reserve participates in a subcommittee of the Basel Committee that focuses on AML/counter-terrorism financing issues. In 2008, the Basel Committee released for public comment a consultative document titled Due Diligence and Transparency regarding Cover Payment Messages Related to Cross-Border Wire Transfers and assisted in the review of comments in preparation for finalizing the paper.
In October 2008, the Federal Reserve issued guidance clarifying supervisory expectations with respect to compliance risk management. The guidance endorses principles applicable to all banking organizations set forth by the Basel Committee in its April 2005 paper titled Compliance and the Compliance Function in Banks. It also clarifies the Federal Reserve's supervisory views relating to firmwide compliance-risk management programs and oversight at large banking organizations having complex compliance profiles.
As a member of the Basel Committee, the Federal Reserve participates in efforts to advance sound supervisory policies for internationally active banking organizations and to improve the stability of the international banking system. In 2008, the Federal Reserve participated in ongoing cooperative work on strategic responses to the financial markets crisis, initiatives to enhance Basel II, implementation of Basel II, and development of international supervisory risk-management guidance, particularly in the areas of funding liquidity risk management, counterparty credit risk, and stress-testing practices.
The Federal Reserve contributed to supervisory policy papers, reports, and recommendations issued by the Basel Committee during 2008 that were generally aimed at improving the supervision of banking organizations' risk-management practices.8 Three of these were
In 2008, the Federal Reserve continued to participate in the Joint Forum--a group established under the aegis of the Basel Committee to address issues related to the banking, securities, and insurance sectors, including the regulation of financial conglomerates. The Joint Forum is made up of representatives of the Basel Committee, the International Organization of Securities Commissions, and the International Association of Insurance Supervisors. The Federal Reserve contributed to the development of supervisory policy papers, reports, and recommendations issued by the Joint Forum during 2008.9 The Federal Reserve also participated in Joint Forum-sponsored information-sharing on pandemic planning and other business continuity initiatives. In 2008, work of the Joint Forum published by the Basel Committee included
The Federal Reserve participates in the Basel Committee's Accounting Task Force (ATF), which represents the Basel Committee at international meetings on accounting, auditing, and disclosure issues affecting global banking organizations. During 2008, Federal Reserve staff participated in activities arising from global market conditions and in support of efforts related to financial stability. In particular, staff members contributed to the development of numerous Basel Committee comment letters related to accounting and auditing matters that were submitted to the International Accounting Standards Board and the International Auditing and Assurance Standards Board (IAASB).
The Basel Committee in November 2008 issued for public comment a consultative paper titled Supervisory Guidance for Assessing Banks' Financial Instrument Fair Value Practices. The paper describes supervisory expectations regarding bank practices and the supervisory assessment of valuation practices. It evolved from work related to the development of the paper Fair Value Measurement and Modeling: An Assessment of Challenges and Lessons Learned from the Market Stress, which was issued in June 2008. The two papers were prepared as a result of initial findings and lessons learned from the current financial crisis and were incorporated in Report of the Financial Stability Forum on Enhancing Market and Institutional Resilience, issued in April.
The Federal Reserve works with the other federal banking agencies to develop guidance on the management of credit risk, to coordinate the assessment of regulated institutions' credit risk, and to ensure that institutions properly identify, measure, and manage credit risk.
The ongoing financial and economic stress has highlighted the crucial role that prudent bank lending practices play in promoting the nation's economic welfare. In 2008, the Federal Reserve issued two statements to emphasize the important role of banking organizations in U.S. credit markets and to encourage these organizations to pursue responsible lending activities as they meet the credit needs of American households and businesses. In March, the Federal Reserve issued a statement emphasizing the need for regulated institutions to be transparent in their residential mortgage modification activities and to support industry efforts to improve the collection of data on the type and volume of mortgage modifications. In November, the Federal Reserve, FDIC, OCC, and OTS issued a statement emphasizing the need for banking organizations and their regulators to work together in meeting the credit needs of consumers and businesses. In this statement, the agencies encouraged banking organizations to pursue economically viable and appropriate lending opportunities and stressed the importance of prudent lending practices, a strong capital position, prudent dividend policies, and appropriate employee compensation practices.
In October, the Federal Reserve, FDIC, OCC, and OTS released summary results of the 2008 annual review of the Shared National Credit Program. The agencies established the program in 1977 to promote an efficient and consistent review and classification of shared national credits. A shared national credit (SNC) is any loan or formal loan commitment--and any asset, such as other real estate, stocks, notes, bonds, and debentures taken as debts previously contracted--extended to borrowers by a supervised institution, its subsidiaries and affiliates. A SNC must have an original loan amount that aggregates to $20 million or more and either (1) is shared by three or more unaffiliated supervised institutions under a formal lending agreement or (2) a portion of which is sold to two or more unaffiliated supervised institutions, with the purchasing institutions assuming their pro rata share of the credit risk.
The 2008 SNC review was based on analyses of credit data as of December 31, 2007, provided by federally supervised institutions. The 2008 review found that the volume of shared national credits rose 22.6 percent over the 2007 review, to $2.8 trillion. The record growth in credit volume was concentrated in large syndicated loans underwritten in late 2006 and the first half of 2007, led by the media and telecom, utilities, finance and insurance, and oil and gas sectors. "Criticized" credits rose $259.3 billion, to $373.4 billion, accounting for 13.4 percent of the SNC portfolio compared with 5.0 percent in the 2007 review. Within the "criticized" category, "special mention" (potentially weak) credits increased $167.9 billion, accounting for 7.5 percent of the SNC portfolio compared with 1.9 percent in the 2007 review, and "classified" credits (credits having well-defined weaknesses) increased $91.5 billion, accounting for 5.8 percent of the SNC portfolio compared with 3.1 percent in the 2007 review. The criticized credits and related ratios do not include the effects of hedging or other techniques that organizations often use to mitigate risk.
The 2008 SNC review also included a supervisory assessment of underwriting standards. Examiners found an inordinate volume of syndicated loans having structurally weak underwriting characteristics, particularly in noninvestment-grade or leveraged transactions. The most commonly cited weaknesses were liberal repayment terms, repayment dependent on refinancing or recapitalization, and nonexistent or weak loan covenants. Examiners also found that an excessive number of loan agreements did not provide adequate warnings or allow for proactive control over the credit.
In November, the Federal Reserve, FDIC, and OCC jointly issued revisions to the Guide to the Interagency Country Exposure Review Committee (ICERC)Process to reflect improvements in regulated institutions' cross-border exposure analyses and country risk management programs, as well as increased availability of information on country and transfer risk (see SR letter 08-12). The agencies will now assign an ICERC rating to only those countries in default and, accordingly, have eliminated the rating categories Other Transfer Risk Problems (OTRP), Weak, Moderately Strong, and Strong. They will continue to closely monitor regulated institutions' cross-border exposures. The revised guide sets forth supervisory expectations for an institution's country risk assessment process and rating systems. It also emphasizes that an institution is expected to have appropriate limits on exposure to each sovereign entity, to perform financial analyses of its exposures, and to apply robust risk management to all country exposures, not just to the countries rated by the agencies.
In November, the Federal Reserve, FDIC, NCUA, OCC, and OTS jointly issued for comment proposed Interagency Appraisal and Evaluation Guidelines to reaffirm supervisory expectations for sound real estate appraisal and evaluation practices. The proposed guidance would replace the 1994 Interagency Appraisal and Evaluation Guidelines to reflect changes in industry practice, uniform appraisal standards, and technology. It incorporates supervisory guidance issued by the agencies since 1994 and clarifies their expectations for a regulated institution's risk-management principles and internal controls for its real estate collateral valuation function. The proposed guidance also includes a discussion of the use of automated valuation models in the development of an evaluation of real estate collateral for real estate transactions below the appraisal threshold set forth in the agencies' appraisal regulation. The comment period for the proposal closed on January 20, 2009.
In January, the FBIIC and the Financial Services Sector Coordinating Council (FSSCC), an organization made up of financial services trade associations and individual firms, published an after-action report on a pandemic flu exercise held in September and October 2007 for the financial services sector in the United States. A total of 2,775 organizations participated in the exercise, of which approximately 62 percent were banks, thrifts, and credit unions. The exercise revealed several key themes that are important to pandemic planning: communications plans, infrastructure-dependency plans, cross-trained employees, telecommuting, human resources issues, and plans for a second wave of the pandemic.
Throughout 2008, the Federal Reserve and the other FFIEC agencies were engaged in several projects designed to help the agencies prepare for a pandemic event. The agencies sponsored a Roundtable on Pandemic Planning attended by approximately 170 industry representatives, including some international participants. The FFIEC's Business Continuity Planning Booklet was updated in March to include guidance on identifying the continuity planning that should be in place to minimize adverse effects of a pandemic event. The agencies also discussed with industry representatives the potential industry need for regulatory relief in the event of a pandemic. A meeting of FFIEC members and industry trade group representatives focusing on emergency preparedness, response, and recovery was held in March, and a second meeting was held in September.
In January, the Federal Reserve Bank of New York began a series of reviews to assess the progress made by the top 15 banking organizations in the country with respect to pandemic preparedness. A white paper was published that highlights the practices of firms as well as conclusions and themes as they relate to the current state of pandemic preparedness planning at systemic banking organizations. 10
In August, the Federal Reserve released the Small Entity Compliance Guide for Regulation R. Regulation R, adopted jointly by the Board and the Securities and Exchange Commission in September 2007, implemented certain key exceptions for banks from the definition of the term "broker" under section 3(a)(4) of the Securities Exchange Act of 1934, as amended by the Gramm-Leach-Bliley Act. The guide provides a general description of the regulation and contact information for small entities having questions regarding compliance.
The Federal Reserve's supervisory policy function is responsible for developing, coordinating, and implementing regulatory reporting requirements for various financial reporting forms filed by domestic and foreign financial institutions subject to Federal Reserve supervision. Federal Reserve staff members interact with relevant federal and state supervisors, including foreign bank supervisors as needed, to recommend and implement appropriate and timely revisions to the reporting forms and the attendant instructions.
The Federal Reserve requires that U.S. bank holding companies periodically submit reports providing financial and structure information. The information is essential in supervising the companies and in formulating regulations and supervisory policies. It is also used in responding to requests from Congress and the public for information about bank holding companies and their nonbank subsidiaries. Foreign banking organizations also are required to periodically submit reports to the Federal Reserve.
Reports in the FR Y-9 series--FR Y-9C, FR Y-9LP, and FR Y-9SP--provide standardized financial statements for bank holding companies on both a consolidated and a parent-only basis. The reports are used to detect emerging financial problems, to review performance and conduct pre-inspection analysis, to monitor and evaluate risk profiles and capital adequacy, to evaluate proposals for bank holding company mergers and acquisitions, and to analyze a holding company's overall financial condition. Nonbank subsidiary reports--FR Y-11, FR 2314, and FR Y-7N--help the Federal Reserve determine the condition of bank holding companies that are engaged in nonbank activities and also aid in monitoring the number, nature, and condition of the companies' nonbank subsidiaries. The FR Y-8 report provides information on transactions between an insured depository institution and its affiliates that are subject to section 23A of the Federal Reserve Act; it is used to monitor bank exposures to affiliates and to ensure banks' compliance with section 23A of the Federal Reserve Act. The FR Y-10 report provides data on changes in organization structure at domestic and foreign banking organizations (FBOs). The FR Y-6 and FR Y-7 reports gather additional information on organization structure and shareholders from domestic banking organizations and FBOs, respectively; the information is used to monitor structure so as to determine compliance with provisions of the Bank Holding Company Act and Regulation Y and to assess the ability of an FBO to continue as a source of strength to its U.S. operations.
In February, a number of revisions to the FR Y-9C report were approved for implementation during 2008: (1) reporting of interest and fee income on one- to four-family residential mortgages and all other real estate loans separately from income on all other loans; (2) reporting of the quarterly average for one-to four-family residential mortgages and all other real estate loans separately from the quarterly average for all other loans; (3) addition of data items for restructured troubled mortgages and mortgage loans in the process of foreclosure; (4) expansion of the schedule for closed-end one- to four-family residential mortgage banking activity to include originations, purchases, and sales of open-end mortgages as well as closed-end and open-end mortgage loan repurchases and indemnifications during the quarter; (5) modification of the definition of "trading account" and collection of additional information about instruments accounted for under the fair value option on the loan schedule and the fair value measurements schedule; (6) revision of the schedule on trading assets and liabilities; (7) clarification of the instructions for reporting credit derivative data in the risk-based capital schedule, and corresponding change to the report; (8) modification of the threshold for reporting sub-categories of other non-interest income and expense in the income statement; and (9) revision of the instructions for reporting fully insured brokered deposits in the deposit liabilities schedule to conform to the instructions for reporting time deposits in the schedule.
Effective March 2008, the requirement that subsidiaries created for the purpose of issuing trust preferred securities (trust preferred securities subsidiaries) file the FR Y-11, FR 2314, and FR Y-7N was dropped. In addition, new items were added to the reports to collect (1) certain data from all institutions that choose, under generally accepted accounting principles, to apply a fair value option to one or more financial instruments and one or more classes of servicing assets and liabilities and (2) data on income from annuity sales. Also added on the FR Y-7N were a new item for reporting the amount of partnership interests and a new section, Notes to the Financial Statements. Effective December, a question was added to the FR Y-11S, FR 2314S, and FR Y- 7NS to determine whether the subsidiary has adopted a fair value option.
Also effective December 2008, the FR Y-10 report was updated to include collection of the tax ID number for all reportable banking and nonbanking entities located in the United States. In addition, cover pages and instructions for the FR Y-6 and FR Y-7 were modified to highlight, for reporting entities, issues surrounding the submission of information on individuals.
In November, the Federal Reserve proposed a number of revisions to the FR Y-9C for implementation in 2009 comparable to those proposed for the bank Call Report, as described in the next section. In addition, the Federal Reserve proposed to revise the FR Y-9C to (1) add new data items and revise existing data items on trading assets and liabilities; (2) collect information associated with the Treasury's Capital Purchase Program; and (3) add new data items and revise existing data items on regulatory capital requirements. Also in November, the Federal Reserve proposed to revise the FR Y-11, FR 2314, and FR Y-7N in March 2009 to collect new information on assets held in trading accounts and to require that respondents submit all FR Y-8 reports electronically, effective with the June 30, 2009, report date.
As the federal supervisor of state member banks, the Federal Reserve, along with the other banking agencies through the FFIEC, requires banks to submit quarterly Call Reports. Call Reports are the primary source of data for the supervision and regulation of banks and the ongoing assessment of the overall soundness of the nation's banking system. Call Report data, which also serve as benchmarks for the financial information required by many other Federal Reserve regulatory financial reports, are widely used by state and local governments, state banking supervisors, the banking industry, securities analysts, and the academic community.
During 2008, the FFIEC implemented revisions to the Call Report to address new safety and soundness considerations and to facilitate supervision. Among these revisions were collection of additional information related to one-to four-family residential mortgage loans; modification of the definition of "trading account" in response to the creation of a fair value option under generally accepted accounting principles; revision of certain schedules to collect additional information about instruments accounted for under the fair value option; revision of the instructions for reporting daily average deposit data by newly insured institutions to conform with the FDIC's assessment regulations; clarification of the instructions for reporting credit derivatives data on the risk-based capital schedule; and collection of information necessary to calculate assessments for participants in the FDIC's Transaction Account Guarantee Program.
In September, the FFIEC proposed a number of revisions to the Call Report for implementation in 2009. The proposed revisions include new items on (1) held-for-investment loans and leases acquired in business combinations; (2) the date on which the bank's fiscal year ends; (3) real estate construction and development loans on which interest is capitalized; (4) holdings of commercial mortgage-backed securities and structured financial products, such as collateralized debt obligations; (5) fair value measurements for assets and liabilities reported at fair value on a recurring basis; (6) pledged loans and pledged trading assets; (7) collateral and counterparties associated with over-the-counter derivatives exposures; (8) credit derivatives; (9) remaining maturities of unsecured other borrowings and subordinated notes and debentures; (10) unused short-term commitments to asset-backed commercial paper conduits; (11) past due and nonaccrual trading assets; (12) investments in real estate ventures; and (13) held-to-maturity and available-for-sale securities in domestic offices. In addition, revisions were proposed to (1) modify several data items relating to noncontrolling (minority) interests in consolidated subsidiaries; (2) provide for exemptions from reporting certain existing items by banks having less than $1 billion in total assets; (3) clarify the definition of the term "loan secured by real estate"; (4) provide guidance in the reporting instructions on quantifying misstatements in the Call Report; (5) eliminate the confidential treatment of data collected from trust institutions on fiduciary income, expenses, and losses; and (6) expand information collected on trust department activities.
Information technology supporting Federal Reserve supervisory activities is managed within the System supervisory information technology (SSIT) function in the Board's Division of Banking Supervision and Regulation. SSIT works through assigned staff at the Board and the Reserve Banks, as well as through System committees, to ensure that key staff members throughout the System participate in identifying requirements and setting priorities for information technology initiatives.
In 2008, the SSIT function worked on several strategic projects and initiatives: (1) alignment of technology investments with business needs; (2) identification and implementation of improvements to make technology and data more accessible to staff working in the field; (3) strengthening of compliance with data-privacy regulations; (4) implementation of new software to improve the processing of bank applications; and (5) implementation of collaboration and analysis technologies (such as communities of practice and business intelligence tools) to integrate supervisory and management information systems that support both office-based and field staff. With the other federal regulatory agencies, the SSIT also implemented the first phase of the modernization of the Shared National Credit system. And it began a project to develop a comprehensive tool for tracking exam findings Systemwide.
The National Information Center (NIC) is the Federal Reserve's comprehensive repository for supervisory, financial, and banking-structure data. It is also the main repository for many supervisory documents. NIC includes (1) data on banking structure throughout the United States as well as foreign banking concerns; (2) the National Examination Database (NED), which enables supervisory personnel as well as federal and state banking authorities to access NIC data; (3) the Banking Organization National Desktop (BOND), an application that facilitates secure, real-time electronic information-sharing and collaboration among federal and state banking regulators for the supervision of banking organizations; and (4) the Central Document and Text Repository, which contains documents supporting the supervisory processes.
Within the NIC, the supporting systems have been modified over time to extend their useful lives and improve business workflow efficiency. During 2008, work continued on upgrading the entire NIC infrastructure to provide easier access to information, a consistent Federal Reserve enterprise information data repository, a comprehensive metadata repository, and uniform security across the Federal Reserve System. An initial model was provided to a representative group of Federal Reserve users and stakeholders. Significant design changes resulted from the feedback of that group. Implementation is expected to be phased in beginning mid-year 2009 and to be completed by year-end 2010. Also during the year, several programming changes were made to NIC applications in support of business needs, primarily for the credit risk and discount window functions to monitor new Federal Reserve programs created to assist the financial and banking markets.
The Federal Reserve continued in 2008 to work with other federal regulatory agencies to modernize the collection of SNC information by creating a common collection facility. Implementation of the initial phase was effective year-end 2008, for fourth-quarter data. SNC data will begin being reported on a quarterly basis.
Finally, the Federal Reserve participated in a number of technology-related initiatives supporting the supervision function as part of FFIEC task forces and subgroups.
Training and staff development focuses on recruiting, deploying, developing, and retaining staff having the skills necessary to meet supervisory responsibilities today and in the future. The staff development program is responsible for the ongoing development of nearly 2,300 professional supervisory staff. Training for banking supervision and regulation in 2008 is summarized in the table.
|Course sponsor or type||Number of participants||Instructional time (training days unless otherwise noted)||Number of course offerings|
|Federal Reserve personnel||State personnel|
|Federal Reserve System||3,217||359||11,998||128|
|The Options Institute1||6||4||18||1|
|Rapid response||1,745||0||10 one-hour conference calls||10|
1. The Options Institute, an educational arm of the Chicago Board Options Exchange, provides a three-day seminar on the use of options in risk management. Return to table
The Examiner Commissioning Program (ECP) involves approximately 22 weeks of instruction. Individuals move through a combination of classroom offerings, self-paced assignments, and on-the-job training over a period of two to five years. Achievement is measured by two professionally validated proficiency examinations: the first proficiency exam is required of all ECP participants; the second proficiency exam is offered in two specialty areas--safety and soundness, and consumer affairs. A third specialty, in information technology, requires that individuals earn the Certified Information Systems Auditor certification offered by the Information Systems Audit Control Association. In 2008, 147 examiners passed the first proficiency exam and 93 passed the second proficiency exam (63 in safety and soundness, and 30 in consumer affairs).
Other formal and informal learning opportunities are available to examiners, including other schools and programs offered within the System and FFIEC-sponsored schools. System programs are also available to state agencies. In 2008, "rapid response" sessions were instituted in response to emerging or urgent training needs associated with implementation or issuance of new laws, regulations, or guidance.
The Federal Reserve administers five federal statutes that apply to bank holding companies, financial holding companies, member banks, and foreign banking organizations--the Bank Holding Company Act, the Bank Merger Act, the Change in Bank Control Act, the Federal Reserve Act, and the International Banking Act. In administering these statutes, the Federal Reserve acts on a variety of proposals that directly or indirectly affect the structure of the U.S. banking system at the local, regional, and national levels; the international operations of domestic banking organizations; or the U.S. banking operations of foreign banks. The proposals concern bank holding company formations and acquisitions, bank mergers, and other transactions involving bank or nonbank firms. In 2008, the Federal Reserve acted on 1,057 proposals representing 1,910 individual applications filed under the five statutes.
Under the Bank Holding Company Act, a corporation or similar legal entity must obtain the Federal Reserve's approval before forming a bank holding company through the acquisition of one or more banks in the United States. Once formed, a bank holding company must receive Federal Reserve approval before acquiring or establishing additional banks. Also, bank holding companies generally may engage in only those nonbanking activities that the Board has previously determined to be closely related to banking under section 4(c)(8) of the Bank Holding Company Act. Depending on the circumstances, these activities may or may not require Federal Reserve approval in advance of their commencement.11
When reviewing a bank holding company application or notice that requires prior approval, the Federal Reserve may consider the financial and managerial resources of the applicant, the future prospects of both the applicant and the firm to be acquired, the convenience and needs of the community to be served, the potential public benefits, the competitive effects of the proposal, and the applicant's ability to make available to the Federal Reserve information deemed necessary to ensure compliance with applicable law. In the case of a foreign banking organization seeking to acquire control of a U.S. bank, the Federal Reserve also considers whether the foreign bank is subject to comprehensive supervision or regulation on a consolidated basis by its home-country supervisor. In 2008, the Federal Reserve acted on 495 applications and notices filed by bank holding companies to acquire a bank or a nonbank firm, or to otherwise expand their activities.
A bank holding company may repurchase its own shares from its shareholders. When the company borrows money to buy the shares, the transaction increases the company's debt and decreases its equity. The Federal Reserve may object to stock repurchases by holding companies that fail to meet certain standards, including the Board's capital adequacy guidelines. In 2008, the Federal Reserve reviewed 7 stock repurchase proposals by bank holding companies.
The Federal Reserve also reviews elections submitted by bank holding companies seeking financial holding company status under the authority granted by the Gramm-Leach-Bliley Act. Bank holding companies seeking financial holding company status must file a written declaration with the Federal Reserve. In 2008, 29 domestic financial holding company declarations and 5 foreign bank declarations were approved.
The Bank Merger Act requires that all proposals involving the merger of insured depository institutions be acted on by the relevant federal banking agency. The Federal Reserve has primary jurisdiction if the institution surviving the merger is a state member bank. Before acting on a merger proposal, the Federal Reserve considers the financial and managerial resources of the applicant, the future prospects of the existing and combined organizations, the convenience and needs of the community(ies) to be served, and the competitive effects of the proposed merger. The Federal Reserve also must consider the views of the U.S. Department of Justice regarding the competitive aspects of any proposed bank merger involving unaffiliated insured depository institutions. In 2008, the Federal Reserve approved 71 merger applications under the act.
The Change in Bank Control Act requires individuals and certain other parties that seek control of a U.S. bank or bank holding company to obtain approval from the relevant federal banking agency before completing the transaction. The Federal Reserve is responsible for reviewing changes in the control of state member banks and bank holding companies. In its review, the Federal Reserve considers the financial position, competence, experience, and integrity of the acquiring person; the effect of the proposed change on the financial condition of the bank or bank holding company being acquired; the future prospects of the institution to be acquired; the effect of the proposed change on competition in any relevant market; the completeness of the information submitted by the acquiring person; and whether the proposed change would have an adverse effect on the Deposit Insurance Fund. A proposed transaction should not jeopardize the stability of the institution or the interests of depositors. During its review of a proposed transaction, the Federal Reserve may contact other regulatory or law enforcement agencies for information about relevant individuals. In 2008, the Federal Reserve approved 124 changes in control of state member banks and bank holding companies.
Under the Federal Reserve Act, a member bank may be required to seek Federal Reserve approval before expanding its operations domestically or internationally. State member banks must obtain Federal Reserve approval to establish domestic branches, and all member banks (including national banks) must obtain Federal Reserve approval to establish foreign branches. When reviewing proposals to establish domestic branches, the Federal Reserve considers, among other things, the scope and nature of the banking activities to be conducted. When reviewing proposals for foreign branches, the Federal Reserve considers, among other things, the condition of the bank and the bank's experience in international banking. In 2008, the Federal Reserve acted on new and merger-related branch proposals for 890 domestic branches and granted prior approval for the establishment of 6 new foreign branches.
State member banks must also obtain Federal Reserve approval to establish financial subsidiaries. These subsidiaries may engage in activities that are financial in nature or incidental to financial activities, including securities-related and insurance agency-related activities. In 2008, 4 financial subsidiary applications were approved.
U.S. banking organizations may engage in a broad range of activities overseas. Many of the activities are conducted indirectly through Edge Act and agreement corporation subsidiaries. Although most foreign investments are made under general consent procedures that involve only after-the-fact notification to the Federal Reserve, large and other significant investments require prior approval. In 2008, the Federal Reserve approved 67 proposals for overseas investments by U.S. banking organizations, many of which represented investments through an Edge Act or agreement corporation.
The International Banking Act, as amended by the Foreign Bank Supervision Enhancement Act of 1991, requires foreign banks to obtain Federal Reserve approval before establishing branches, agencies, commercial lending company subsidiaries, or representative offices in the United States.
In reviewing proposals, the Federal Reserve generally considers whether the foreign bank is subject to comprehensive supervision or regulation on a consolidated basis by its home-country supervisor. It also considers whether the home-country supervisor has consented to the establishment of the U.S. office; the financial condition and resources of the foreign bank and its existing U.S. operations; the managerial resources of the foreign bank; whether the home-country supervisor shares information regarding the operations of the foreign bank with other supervisory authorities; whether the foreign bank has provided adequate assurances that information concerning its operations and activities will be made available to the Federal Reserve, if deemed necessary to determine and enforce compliance with applicable law; whether the foreign bank has adopted and implemented procedures to combat money laundering and whether the home country of the foreign bank is developing a legal regime to address money laundering or is participating in multilateral efforts to combat money laundering; and the record of the foreign bank with respect to compliance with U.S. law. In 2008, the Federal Reserve approved 19 applications by foreign banks to establish branches, agencies, or representative offices in the United States.
Certain decisions by the Federal Reserve that involve an acquisition by a bank holding company, a bank merger, a change in control, or the establishment of a new U.S. banking presence by a foreign bank are made known to the public by an order or an announcement. Orders state the decision, the essential facts of the application or notice, and the basis for the decision; announcements state only the decision. All orders and announcements are made public immediately; they are subsequently reported in the Board's weekly H.2 statistical release. The H.2 release also contains announcements of applications and notices received by the Federal Reserve upon which action has not yet been taken. For each pending application and notice, the related H.2 gives the deadline for comments. The Board's website (www.federalreserve.gov) provides information on orders and announcements as well as a guide for U.S. and foreign banking organizations that wish to submit applications or notices to the Federal Reserve.
The Federal Reserve's enforcement responsibilities also extend to the disclosure of financial information by state member banks and the use of credit to purchase and carry securities.
State member banks that issue securities registered under the Securities Exchange Act of 1934 must disclose certain information of interest to investors, including annual and quarterly financial reports and proxy statements. By statute, the Board's financial disclosure rules must be substantially similar to those of the Securities and Exchange Commission. At the end of 2008, 12 state member banks were registered with the Board under the Securities Exchange Act.
Under the Securities Exchange Act, the Board is responsible for regulating credit in certain transactions involving the purchase or carrying of securities. The Board's Regulation T limits the amount of credit that may be provided by securities brokers and dealers when the credit is used to purchase debt and equity securities. The Board's Regulation U limits the amount of credit that may be provided by lenders other than brokers and dealers when the credit is used to purchase or carry publicly held equity securities if the loan is secured by those or other publicly held equity securities. The Board's Regulation X applies these credit limitations, or margin requirements, to certain borrowers and to certain credit extensions, such as credit obtained from foreign lenders by U.S. citizens.
Several regulatory agencies enforce the Board's securities credit regulations. The SEC, the Financial Industry Regulatory Authority (formed through the combination of the National Association of Securities Dealers and the regulation, enforcement, and arbitration functions of the New York Stock Exchange), and the Chicago Board Options Exchange examine brokers and dealers for compliance with Regulation T. With respect to compliance with Regulation U, the federal banking agencies examine banks under their respective jurisdictions; the Farm Credit Administration and the National Credit Union Administration examine lenders under their respective jurisdictions; and the Federal Reserve examines other Regulation U lenders.
At the end of 2008, 2,378 banks were members of the Federal Reserve System and were operating 55,892 branches. These banks accounted for 34 percent of all commercial banks in the United States and for 70 percent of all commercial banking offices.
1. The Basel II Capital Accord, an international
agreement formally titled "International
Convergence of Capital Measurement and Capital
Standards: A Revised Framework," was developed
by the Basel Committee on Banking Supervision,
which is made up of representatives of the
central banks or other supervisory authorities of
19 countries. The original document was issued in
2004; the original version and an updated version
issued in November 2005 are available on the
website of the Bank for International Settlements.Return to text
2. Each of the first two components has four subcomponents: Risk Management--Board and Senior Management Oversight; Policies, Procedures, and Limits; Risk Monitoring and Management Information Systems; and Internal Controls. Financial Condition--Capital; Asset Quality; Earnings; and Liquidity.Return to text
3. The Financial Services Regulatory Relief Act of 2006, which became effective in October 2006, authorized the federal banking agencies to raise the threshold from $250 million to $500 million, and final rules incorporating the change into existing regulations were issued on September 21, 2007.Return to text
4. The special supervisory program was implemented in 1997 and modified in 2002. See SR letter 02-01 for a discussion of the factors considered in determining whether a bank holding company is complex or noncomplex. Return to text
5. The FFIEC is an interagency body of financial regulatory agencies established to prescribe uniform principles, standards, and report forms and to promote uniformity in the supervision of financial institutions. The Council has six voting members: the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the National Credit Union Administration, the Office of the Comptroller of the Currency, the Office of Thrift Supervision, and the chair of the State Liaison Committee. Return to text
6. In October 2008, the FBI, U.S. Postal Inspectors, and state and local authorities began investigating more than 30 threatening letters that were received at financial institutions in New York, New Jersey, Washington, D.C., Ohio, Illinois, Colorado, Oklahoma, Georgia, California, and Texas. Most of the letters contained a powder substance with a threatening communication. Return to text
7. Tier 1 capital comprises common stockholders' equity and qualifying forms of preferred stock, less required deductions such as goodwill and certain intangible assets. Return to text
8. Papers issued by the Basel Committee can be accessed via the Bank for International Settlements website. Return to text
9. Papers issued by the Joint Forum can be accessed via the Bank for International Settlements website. Return to text
10. The population under review included core clearing and settlement organizations and firms that play a critical role in financial markets and are subject to resiliency guidelines issued in April 2003, also called the "Sound Practices Paper." Return to text
11. Since 1996, the act has provided an expedited prior notice procedure for certain permissible nonbank activities and for acquisitions of small banks and nonbank entities. Since that time the act has also permitted well-run bank holding companies that satisfy certain criteria to commence certain other nonbank activities on a de novo basis without first obtaining Federal Reserve approval. Return to text