The role of supervisors as guardians of trust in banking was highlighted by Acting Comptroller of the Currency Michael Hsu in a keynote speech at a European banking conference in Frankfurt, Germany recently.
As the banking system evolves, Hsu said, then so should the role of supervisors. Given last spring’s banking turmoil and the projected growth of large banks, he said it was time for US banking agencies to consider steps for a framework for formally identifying domestic systemically important banks.
“Doing so could provide helpful transparency and rigor for those banks that need it as it would clarify the stakes involved of weakly supervising and regulating such institutions,” he continued, explaining that this would improve transparency of banking supervision and regulation and provide greater protection for consumers.
Evolving banking system
Banks and the banking system have grown significantly in size and complexity over the past 30 years, he said. Large banks have gotten much bigger and are much more complex. Thirty years ago, there were only five US banks with more than $100 billion in assets ($800 billion in combined assets) and now there are 32 large banks in the United States with aggregate assets exceeding $17 trillion.
A range of nonfinancial risks has steadily risen in importance for banks and the banking system. Also the relationship between banks and nonbank financial institutions has led to an increasingly complex nexus between banking and commerce.
Lurking behind developments from the rise and fall of crypto, to concerns about the growth of private credit and nonbank mortgage servicing, to the recent bankruptcy of fintech middleware firm Synapse, have been proliferating questions about the roles, interdependencies, and exposure of banks to nonbanks, said Hsu.
Evolving supervision
These changes in banks and banking have compelled bank supervisors to adapt to remain effective.
IT
Hsu discussed the interaction supervisors have had with banks about their cyber, operational and IT risks with reference to the CrowdStrike outage. Whereas airlines and other industries experienced significant disruptions, Hsu observed that “bank operations were largely unaffected.” Banks’ relative resilience in the face of the CrowdStrike disruption was due to banking supervisors’ efforts, which had pushed banks to improve on their operational capabilities because of their prevalence of legacy systems, he said.
Crypto
The failures of Silicon Valley Bank and Signature Bank sparked intense public scrutiny of supervisors at various banking agencies, said Hsu. However, effective supervision should be “largely invisible to the public” and when the crypto market imploded in 2022 with $2 trillion of market value loss and multiple crypto platforms filing for bankruptcy, the banking system was largely unaffected, he observed.
“That was not luck. That was the result of a long ground game of supervision seeking to ensure that crypto activities banks engaged in were safe, sound, and fair.”
Imperatives for supervision
Supervisors must operationalize and sustain robust risk-based supervision, said Hsu. Processes should be a tool and not a cage. Hsu said that whilst supervisors sometimes criticize banks for taking a “check the box” approach, supervisors can equally fall into the same trap. He explained that the problem with check-the-box supervision is that there are a lot of boxes to check, and each box is given equal weight. Although, this ensures comprehensiveness, he argued that it “artificially limits our ability to focus supervisory attention where it is needed most.”
Risk-based supervision takes a different approach by de-emphasizing the checklist. The OCC’s commitment to risk-based supervision is summarized by the mantra: “The right work, with the right people, at the right time.”