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1998 Annual Report

Supervision and Enforcement



At year-end 1998, the FDIC was the primary federal regulator of 5,321 state-chartered banks that are not members of the Federal Reserve System and 544 state-chartered savings banks. The FDIC also had back-up examination and enforcement authority for the remaining 4,596 federally insured state member banks, national banks and savings associations.

The Division of Supervision (DOS) leads the FDIC’s supervisory efforts through on-site examinations
and off-site analyses. When DOS identifies an institution that operates in a weakened or an unsafe
and unsound condition, or encounters practices that might lead to future difficulties, it employs various corrective methods or enforcement actions to curtail activities that might otherwise result in significant losses to the insurance funds. DOS also works with other divisions to identify emerging risks and to develop timely policies and procedures to help examiners assess each bank’s ability to identify, measure, monitor, and control those risks.

Taking the opportunity provided by the continued good health of the banking industry in 1998, the FDIC addressed several challenges and provided a more dynamic approach to its mission. The FDIC continued to address Year 2000 challenges, refine examination and risk assessment procedures, streamline or consolidate regulations, initiate outreach programs for bankers and other regulators, manage enforcement actions and applications, and otherwise prepare for the future. These actions illustrate the FDIC’s continued commitment to improve efficiency throughout the organization and to reduce regulatory burden on the industry.

Addressing Year 2000 Challenges
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During 1998, DOS spearheaded the agency’s efforts to address potential supervisory-related problems associated with the Year 2000 date change.

DOS worked with the other Federal Financial Institutions Examination Council (FFIEC) agencies to issue industry guidance on the Year 2000 issue and to train examiners. During 1998, examiners completed the first round of comprehensive on-site assessments for FDIC-supervised institutions. At year-end, 97 percent of institutions were satisfactorily addressing the Year 2000 issue. For the remaining institutions, the FDIC implemented supervisory action to ensure that those institutions take corrective action.

The FDIC will continue to work closely with banks during the coming year on this enormous task. During 1999, examiners will complete a second phase of on-site examinations focusing on the critical steps of systems testing and contingency planning. By June 30, 1999, insured institutions should be using computer programs that have been fixed and tested to deal with Year 2000 challenges.

For more information on the challenges faced by the Year 2000 date change, (click here).

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Refining Examination and Risk-Assessment Procedures
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The FDIC implemented several programs in 1998 that improved the agency’s risk-assessment capabilities and streamlined examinations and other supervisory functions.

On October 19, the FDIC launched the General Examination System (GENESYS), a software application that automates the preparation of the entire examination report. GENESYS improves the examination process by integrating information from other automated systems, including the Automated Loan Examination Review Tool (ALERT). The GENESYS software features a more comprehensive database of financial and examination information than previous systems, which enhances the risk-focused examination process. GENESYS also includes advanced data-query and analysis tools that allow examiners to perform a significant portion of their analysis off-site, thereby minimizing time spent in a financial institution.

Kari Walter (l), Chief of the Division of
Supervision’s (DOS) International Branch,
and DOS Assistant Director Jesse Snyder
handle numerous requests from foreign
government agencies asking the FDIC to
share its expertise.
Photo of DOS International Branch Staff

DOS worked closely with the Federal Reserve Board (FRB) and the Conference of State Bank Supervisors (CSBS) to develop GENESYS. This cooperation promoted consistency among the agencies and reduced regulatory burden on state banks. During 1998, the FDIC, the FRB and the CSBS also formed a steering committee to better coordinate risk-focused examination procedures among the agencies and to oversee ongoing enhancements to the supporting software.

The FDIC also developed other automation tools that make examinations and off-site analyses more productive, efficient and risk-focused. For instance, DOS worked with the FDIC’s Division of Research and Statistics (DRS) to develop the Statistical Camels Offsite Rating (SCOR) program. SCOR is an "early warning" application that uses statistical measures to identify institutions that are likely to receive a downgrade at the next examination in their Uniform Financial Institution Rating.

Additional automation projects completed during 1998 that improve the examination process included:

  • The Division of Insurance’s (DOI) Regional Economic Conditions Report for Examiners (RECON), which provides timely, comprehensive regional economic data to examiners and other staff members through the FDIC’s internal computer network;

  • A commercial real estate database that provides recent sales information and assists FDIC staff in the assessment of large, complicated real estate loans or other real estate; and

  • A new CD-ROM that provides examiners with commonly used reference materials in an electronic format.

Table: FDIC Examinations 1996-1998

During 1998, DOS implemented new examination procedures for securities and derivatives activities at institutions. The new procedures place primary emphasis on management’s ability to identify, measure, monitor and control the risks of investment activities. The new procedures also require examiners to evaluate whether an institution’s management understands the risks in securities activities, both prior to purchases and on an ongoing basis.

The FDIC has taken a leading role in recognizing and responding to electronic banking developments, which present unique risks and supervisory issues to the financial system. During 1998, DOS developed streamlined examination procedures for telephone banking activities and enhanced the risk-focused examination modules to reflect recent changes in the electronic banking industry. DOS also implemented an electronic banking data-entry system that collects key data from examinations and improves off-site risk monitoring capabilities. To address the growing complexity of electronic banking activities, DOS appointed nearly 200 electronic banking specialists and trained these specialists in technical examination procedures that evaluate the safety of various operating systems and firewalls.

The FDIC Safety and Soundness Examination Questionnaire, implemented in 1995, solicits quarterly opinions and suggestions from bankers on how to improve the quality and efficiency of the examination process. The FDIC received more than 1,300 responses to the questionnaire in 1998. The responses show that institutions continue to submit positive reviews of the examination process, teams, reports
and other examination activities.

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Identifying and Addressing Emerging Risks
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During 1998, the FDIC identified several emerging risks and developed timely guidelines to address those risks. DOS, together with DOI, identified the expansion of loans to "subprime" borrowers (those presenting higher risk of default characteristics than most others). Faced with strong competition and shrinking margins on loans to high-quality borrowers, some lenders extended their risk selection standards to include these higher-rate, higher-risk loans. Because of the relatively high default rates on such loans, subprime lending requires institutions to have strong internal controls and risk management practices. As a result of this trend, DOS worked with DOI and other regulatory agencies to develop interagency guidance to ensure that institutions both understand the risks inherent in subprime lending and manage those risks in a safe and sound manner.

The quarterly Report on Underwriting Practices is another primary early warning mechanism for detecting emerging risks in the banking system. While underwriting practices remained sound overall in 1998, the underwriting surveys that examiners completed indicated an easing of standards for commercial real estate as well as acquisition, development, and construction lending. In addition, various studies by DOI detected early indicators of potential imbalances in a number of real estate markets. As a result of these studies, the FDIC issued guidance to bankers reminding them of the regulatory guidelines for underwriting real estate loans.

The FDIC also is addressing the potential outcomes that may result from continued industry consolidation. As the industry stratifies into large multi-tiered organizations and small community banks, the FDIC is working to preserve the "dual banking system" of national and state banks by allowing small, state-chartered banking organizations to remain competitive in an interstate banking environment. For example, DOS is evaluating the merits of establishing a separate capital framework for nationwide and multinational banks. DOS also is working closely with DOI, DRS, and DRR (Division of Resolutions and Receiverships) to simulate the impact that the failure of one or more of the nation’s largest financial institutions may have on the deposit insurance funds. These studies will enable the FDIC to prepare for future events and continue to serve as a source of stability to the nation’s banking system in a changing environment.

During 1998, the FDIC also was faced with the challenge of supervising an increasingly global industry. Foreign banking organizations operating in the U.S. control nearly one-fifth of the U.S. banking industry’s asset base. The international branch of DOS monitors the activities of U.S. banks operating abroad and foreign banks operating in the U.S. The international branch also completes risk profiles of various countries whose banking systems are of potential interest to the FDIC. The continued deterioration in global economies, particularly in Asia and among emerging economies, was probably the most significant international issue the FDIC monitored during 1998. For more information on international banking, (click here).

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Reducing Regulatory Burden
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The FDIC continued to streamline its regulations and policies as mandated by the Riegle Community Development and Regulatory Improvement Act of 1994 (CDRI). Throughout 1998, FDIC staff worked to develop and implement recommendations that originally called for the rescission or revision of 85 of the 120 FDIC and interagency regulations and policy statements.

Perhaps the most important accomplishment resulting from the 1998 CDRI reviews was the implemen- tation of a final rule governing the FDIC’s application process. The revised rule (Part 303) allows well- managed and well-capitalized institutions to take advantage of expedited applications processing for deposit insurance, mergers, branches, trust powers, stock buy-backs and certain international activities. More than 90 percent of all FDIC-supervised banks currently meet the eligibility standards for the expedited processing, so the new applications procedures will significantly reduce regulatory burden for the banking industry.

The FDIC also adopted a final rule (Part 362) that consolidated into a single regulation what previously were several regulations governing activities and investments of FDIC-supervised institutions. The consolidated regulation both simplifies existing limitations applicable to certain real estate and securities activities and streamlines the application process. Because the FDIC retains the ability to place restrictions on an activity or prohibit a particular institution from engaging in the activity, the final rule relieves regulatory burden significantly without affecting safety and soundness.

Other significant actions taken in 1998 as a result of the CDRI review included:

  • Revising and consolidating three different groups of rules and regulations governing international banking;

  • Removing inconsistencies or outdated procedures in policy statements involving applications and bank merger transactions;

  • Simplifying deposit insurance rules; and

  • Revising and consolidating two policy statements concerning participation in the conduct of the affairs of an institution by persons who have been convicted of certain crimes or who entered pretrial diversions for such offenses.
FDIC Examiner Answers Bankers' Questions Examiner Brian Looft from the Division of Supervision's Kansas City office answers bankers’ Y2K questions at the FutureBank '98 exhibit in Kansas City sponsored by the Community Bankers Associations of Kansas
and Minnesota.

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Maintaining Open Communication
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The FDIC also established and maintained open lines of communication regarding supervisory matters with the financial services industry and other regulators. FDIC representatives routinely attended or participated in events sponsored by trade associations and foreign and domestic regulatory agencies (including FDIC-sponsored outreach meetings). The FDIC also serves as a chief source of public information on banking industry supervision through a variety of publications and an extensive Internet
site (http://www.fdic.gov). For example, quarterly publications of DOI’s Regional Outlook and Bank Trends provide in-depth analyses of trends that affect the financial services industry from national and regional perspectives.

Additional communication efforts in 1998 include:

  • The FDIC’s International Deposit Insurance Conference, which was held in Washington, DC, in September. The conference primarily addressed the role of deposit insurance in maintaining public confidence and was attended by top government officials from 62 countries. For more details, please click here.

  • A Year 2000 summit, which was held in Washington, DC, in December. The FDIC and the Federal Reserve Board hosted this summit for financial institutions and members of the utilities and telecommunications industries. The forum focused on the participants; progress in addressing the Year 2000 computer challenge.

  • FDIC-sponsored seminars, in cooperation with the Independent Bankers Association of America and the American Bankers Association, on nondeposit investment products, securities activities, interest rate risk and trust activities. Nearly 1,000 bankers attended these seminars.

Table: FDIC Applications 1996-1998

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Managing Enforcement Actions and Applications
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DOS works closely with the Legal Division to initiate supervisory enforcement actions against FDIC-supervised institutions and their employees. The FDIC initiated 143 enforcement actions in 1998, representing a continued decline from the 338 actions initiated just six years ago. These figures indicate the continued health of the banking industry.

The trends of continued health and further consolidation of the industry are also evident in both the number and types of applications that the FDIC processed. New bank applications increased significantly for the sixth consecutive year, as record profits attracted new entrants to the marketplace. Nevertheless, merger applications continued to outnumber new entrants as the industry consolidates. Several revisions to regulations governing the FDIC’s applications procedures will further reduce regulatory burden and likely result in a decline in future applications.

Table: Compliance, Enforcement and Other Related Legal Actions 1996-1998


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