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FEDERAL RESERVE BANK
OF NEW YORK
[
Circular No. 10676 "1
December 27, 1993 J
INTERNATIONAL BANKING OPERATIONS
Proposed Amendments to Regulation K
To All Depository Institutions, U.S. Branches, Agencies, and
Representative Offices of Foreign Banks, and Bank Holding Companies
in the Second Federal Reserve District, and Others Concerned:
The Board of Governors of the Federal Reserve System has requested comments on a proposal
to amend its Regulation K, “International Banking Operations,” in order to implement certain
provisions of the Foreign Bank Supervision Enhancement Act of 1991 to permit the Board of
Governors to charge foreign banks for the cost of examinations of their branches, agencies, and
representative offices operating in the United States. Following is the text of the statement issued
by the Board of Governors in that regard:
The Federal Reserve Board has requested public comment on a proposal to assess charges for
examinations of U.S. branches, agencies and representative offices of foreign banks.
Comment should be received by April 20, 1994.
In its notice of proposed rulemaking, the Board requested comment on the methods developed for
assessing the cost of examinations for foreign banks. A charge for examinations of foreign banks
operating in the United States is required by provisions of the Foreign Bank Supervision Enhancement
Act of 1991.
Printed below is the text of the Board’s proposal, which has been reprinted from the Federal
Register of December 15. Comments thereon should be submitted by April 20, 1994, and may be
sent to the Board of Governors, as specified in the notice, or, at this Bank, to Nancy Bercovici,
Assistant Vice President, International Bank Examinations Function. In addition, questions
concerning this matter may also be directed to Ms. Bercovici (Tel. No. 212-720-8227).
W il l ia m J. M c D o n o u g h ,
President.
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Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
M P-500 between 9 a.m. and 5 p.m.
weekdays, except as provided in § 261.8
of the Board’s Rules Regarding
Availability of Information, 12 CFR
261.8.
FOR FURTHER INFORMATION CONTACT:
FEDERAL RESERVE SYSTEM
12 CFR Part 211
[Regulation K; Docket No. R-0820]
Charging for Examinations of U.S.
Branches, Agencies, and
Representative Offices of Foreign
Banks
Board of Governors of the
Federal Reserve System.
ACTION: Notice of proposed rulemaking.
AGENCY:
SUMMARY: The Board of Governors of the
Federal Reserve System (Board) is
seeking public comment on a proposal
to amend its regulations relating to the
activities of foreign banking
organizations in the United States to
implement provisions of the Foreign
Bank Supervision Enhancement Act of
1991 (FBSEA) requiring the Board to
charge foreign banks for the cost of
examinations of their branches,
agencies, and representative offices in
the United States (collectively, “U.S.
Offices”). Under the proposal, the
amount charged for examinations would
be determined by multiplying examiner
hours by an hourly rate. For branches
and agencies, the Board proposes that
the number of examiner hours would be
determined by applying a formula based
on the branch’s or agency’s
characteristics. Comment is also sought
regarding the use of actual recorded
examiner hours for this purpose. For
representative offices, the Board
proposes that actual recorded examiner
hours would be used.
DATES: Comments should be submitted
on or before April 20,1994.
ADDRESSES: Comments, which should
refer to Docket No. R-0820, may be
mailed to the Board of Governors of the
Federal Reserve System, 20th & C Street,
NW., Washington, DC 20551, to the
attention of Mr. William W. Wiles,
Secretary. Comments addressed to the
attention of Mr. Wiles may be delivered
to the Board’s mail room between 8:45
a.m. and 5:15 p.m., and to the security
control room outside those hours. Both
the mail room and the security control
room are accessible from the courtyard
entrance on 20th Street between
Constitution Avenue and C Street, NW.
Comments may be inspected in room
Michael G. Martinson, Assistant
Director (202/452-3640), or Michael D.
O’Connor, Supervisory Financial
Analyst (202/452-3808), Division of
Banking Supervision and Regulation; or
Kathleen M. O’Day, Associate General
Counsel (202/452-3786), Sandy
Richardson, Senior Attorney (202/4526406), or Paul Vogel, Attorney (202/
452-3428), Legal Division; or Sally M.
Davies, Economist (202/452-2908),
Division of Research and Statistics;
Board of Governors of the Federal
Reserve System. For the hearing
impaired only, Telecommunications
Device for the Deaf (TDD), contact
Dorthea Thompson (202/452-3544),
Board of Governors of the Federal
Reserve System, 20th & C Street, NW.,
Washington, DC 20551.
SUPPLEMENTARY INFORMATION: The
FBSEA generally mandated a
strengthened supervisory framework
and an expanded examination program
for U.S. Offices of foreign banks. Public
Law 102-242, title H, subtitle A, Dec.
19,1991,105 Stat. 2286. The FBSEA
also provides that the cost of
examinations of U.S. Offices shall be
assessed against and collected from the
foreign bank or its parent. 12 U.S.C.
3105(c)(1)(D), 3107(c). Assessing for the
cost of examinations requires
consideration of various methodologies
and sources of information for
determining the appropriate costs of an
examination, including consideration of
the number and experience of the
examiners involved. In this regard, in
order to assure compliance with the
annual examination provision of the
FBSEA, the Federal Reserve was
required to hire and train large numbers
of new examiners during the
implementation period. The Federal
Reserve has now reached a point where
the examination program is
substantially implemented and is in a
position to promulgate a methodology to
assess for the cost of examinations.
The purpose of this notice of
proposed rulemaking is to seek public
comment regarding the methods
developed by the Board for assessing the
cost of examinations against foreign
banks. The Board also seeks comment
regarding whether implementation of
the FBSEA provision requiring the
assessment of examination costs against
foreign banks is consistent with the
policy of national treatment established
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
in the International Banking Act of
1978.12 U.S.C. 3101 et seq.
Method of Assessment
The Board considered various
methods of allocating the costs of
examination to foreign banks in order to
assess them for the cost of examining
their U.S. Offices. The most
straightforward approach would be to
refer to the time spent by examiners in
conducting examinations of these
Offices (“examiner hours”), to derive a
per hour rate for their time, and to
assess a given foreign bank for its
allocable share of the total cost.
E xam iner H ours
The Board considers that examiner
hours are the fundamental and most
clearly observable indicator of Federal
Reserve System resources used in
examinations. Examiners’ salaries and
benefits are the largest component of the
costs of examination. Examiner hours
also appear to be an appropriate and
reasonable basis upon which to allocate
the other costs associated with
examinations to individual institutions.
These costs include, but are not limited
to, the cost of equipment, clerical
support, materials, and management
review of the draft examination report.
The Board, therefore, proposes use of
examiner hours both for purposes of
deriving a per hour charge and assigning
examination costs to particular banks.
The Board proposes use of standard
examiner hours, as described below, for
assessing branches and agencies for the
cost of examination generally and use of
actual examiner hours for assessing
representative offices for such costs. The
Board also seeks compient regarding the
use of actual examiner hours for
purposes of assessing branches and
agencies for the cost of examination.
Branches a n d A gen cies
The Board seeks comment on two
alternative methods of assigning costs of
examination to individual branches and
agencies: (1) Developing a formula
based upon experience to derive the
standard number of examiner hours
necessary to examine U.S. branches and
agencies of foreign banks of given
profiles and with given characteristics
(“standard hours”); or (2) using the
actual number of hours that examiners
spend in conducting examinations
(“actual hours”). Both of these
approaches would relate a bank’s
examination charges to the amount of
Federal Reserve resources expended on
examination of its U.S. Offices. As
discussed below, the Board recognizes
that there may be advantages associated
with each method. For the reasons
discussed below, however, the Board
proposes to use the standard hours
method to calculate the examination
charges to be assessed against U.S.
branches and agencies of foreign banks.
The Board also encourages commenters
to provide their views regarding use of
actual hours to calculate the
examination charges. Each of these
methods is described below, together
with the Board’s assessment of the
relative merits of each.
Actual Hours
The Federal Reserve maintains
records regarding the actual hours
examiners spend on particular
examinations. Actual hours, therefore,
could be used to determine foreign
banks’ examination charges.
The Board is concerned with the use
of actual hours for this purpose,
however, because there are numerous
factors that can cause variability in the
amount of time spent examining U.S.
Offices of foreign banks, even among
offices having similar profiles. Such
variability may result from supervisory
judgments regarding matters requiring
further enquiry. Decisions to make an
intensive investigation of certain areas
or activities, for example, will increase
the number of examiner hours, even
though the further enquiry may often
serve to alleviate rather than to confirm
supervisory concerns. Administrative
decisions regarding the composition of
the examination team also may affect
examiner hours. For example, the
number of examiner hours may increase
or decrease depending upon the overall
level of experience of examiners
assigned to the team. Decisions to
provide new examiners with on-the-job
training also can increase significantly
the total number of hours spent on an
examination.
For these reasons, the Board is
concerned that charges based on actual
hours might create an atmosphere in
which disagreements over the
composition of examiner teams or the
amount of time spent on the
examination would divert attention
from critical supervisory issues raised in
the course of the examination. The
Board also does not wish to compromise
the examination process by adding to
pressures from the examined entities on
examiners not to take the time necessary
to conduct a thorough examination of a
particular institution.
The Board, therefore, does not
propose use of actual hours generally to
calculate charges for examinations of
branches and agencies. The Board,
however, is interested in receiving
comment on the use of actual examiner
hours for this purpose, including
65561
whether actual costs per hour (based
upon actual salaries, benefits and other
expenses), rather than the standard rate
per hour proposed below, should be
used in conjunction with actual hours to
derive the examination charge. In this
regard, the Board is concerned that a
system of cost assessment based upon
actual hours and actual costs per hour
may be inefficient, given the added
costs that would be associated with
establishing, maintaining and
administering such a system. Comment
is sought regarding these matters.
Standard H ours
The Board’s preferred method of
determining the examination charge to
be assessed against a foreign bank for its
U.S. branches and agencies is to develop
a formula, based upon experience, that
would calculate a standard number of
examiner hours required to examine
these offices of given profiles and with
given characteristics. Use of the
standard hours method would offer the
advantage of decreasing the variability
of examination charges levied against
offices with similar profiles, while
increasing the predictability of
examination costs for an individual
office. In particular, random variations
in charges that arise from differences in
examiner experience or the other factors
discussed above would not be reflected
in the charges assessed against foreign
banks for their individual branches and
agencies in a given year. The Board
believes that assessments based on
standard hours would be less costly to
administer and less likely to lead to
billing disputes than would charges
based on actual hours.
A number of other U.S. bank
regulators use standardized assessments
to charge banking institutions for
examination and supervisory costs.
Generally, such assessments are related
to the size of the banking institution. It
has been the Federal Reserve’s
experience, however, that the cost of
examining any given institution will be
influenced significantly by
characteristics other than its asset size.
In view of the relevant language of the
FBSEA, the Board considers that, to the
extent possible, such characteristics
should be taken into account in
determining the charges to be assessed
against institutions for their
examinations. The Board nevertheless
would be interested in receiving
comment regarding whether
standardized assessments for the cost of
examination based solely on asset size
would be preferable to the multivariable methodology described below.
65562
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
Proposed Methodology
For the reasons discussed above, in
proposed § 211.26(d), the Board
proposes developing a formula to derive
standard hours by using standard
statistical techniques to estimate the
number of hours generally required to
examine branches and agencies with
similar characteristics. The basic
approach would be to estimate a linear
regression of Federal Reserve examiner
hours devoted over a past period to
examining various branches and
agencies on the characteristics thought
likely to have affected the amount of
time necessary to examine such offices.
All characteristics (“variables”) that are
thought potentially to have a material
effect on examiner hours would be
considered for this purpose, including
total assets, total loans, assets and loans
in offshore “shell" branches, measures
of off-balance sheet activities, problem
loans, the composite rating of assets,
internal controls and management
(“AIM rating"), and the individual
components of the AIM rating. These
types of variables are key factors that
influence the amount of time required to
examine a banking entity.
The data used in the regression
analysis would be collected from three
sources—examination reports and two
types of quarterly reports of condition,
the FFIEC 002 and 002s reports. The
examination reports would supply
examination-specific data, such as the
examination rating and its components
and classified assets. The FFIEC 002
reports provide information regarding
the U.S. operations of foreign banks,
such as the dollar amount and
composition of assets and liabilities and
information on certain off-balance-sheet
activities. The FFIEC 002s reports
contain information on the balance
sheets of off-shore offices of foreign
banks that are “managed or controlled"
(as that phrase is defined in the
instructions to the 002s report) by their
U.S. Offices. Data would be collected for
the year prior to the year in which the
standard hours, as derived under this
methodology, would be applied to
determine a bank’s charge. Earlier years'
data, if available, may also be used in
the regressions, provided that
examiners’ practices have not changed
significantly since that time.
Following the specification of various
regression models, the variables that
produce the best fit (that is, the
characteristics of the branch or agency
that best explain the amount of time
necessary to examine the office, which
subsequently will be referred to as the
“explanatory variables”) will be
determined. When examiner hours are
regressed on these explanatory
variables, a coefficient will be estimated
for each of these variables. Each
coefficient when multiplied by its
corresponding variable will produce a
number of examiner hours typically
attributable to that variable, which then
will be totaled in order to derive the
number of standard examiner hours for
a particular branch or agency.
The Board proposes that the model be
evaluated annually in light of the data
for the previous year. In order to
improve the predictive ability of the
regression, additional variables may be
identified and included and variables
previously included may be deleted or
modified. Such changes to the variables
may be necessary to allow for
interactions between variables or to
account for possible nonlinear
relationships between examiner hours
and the characteristics of branches or
agencies. In addition, if appropriate,
lagged values of some of the variables
may also be included, such as ratings
horn the previous examination (in
addition to ratings from the current
examination). In determining which
variables to include in the model, three
criteria will be considered: (1) How
likely it seems that a variable would
influence examiner hours significantly
or would be indicative of unmeasured
variables that significantly influence
examiner hours; (2) the variable’s
contribution to the predictive ability of
the model; and (3) how reasonable the
estimated coefficients seem when
evaluated against examiner experience.
Application of Proposed Methodology
Using data that were available from
the sources described above for 1993,
Board staff specified a number of
regression models containing all of the
variables listed above.**3The variables
that produced the best fit for these data
were: The dollar amounts of each of
total loans, loans administered by the
branch or agency but booked in off
shore branches, off-balance sheet
derivative activities, loans in nonaccrual status, and loans past due 90
days or more; whether the composite
AIM rating for the current exam was 3
or worse; whether the internal controls
component (“I rating”) was 3 or worse
for that examination; and whether the I
rating for the previous examination was
4 or worse. Each of the latter two
* The data used in the analysis were obtained
from the five Federal Reserve Banka that conduct
the vast majority of examinations of branches and
agencies— Atlanta, Chicago, Dallas, New York and
San Francisco. These data were then matched with
data reported by the branches and agencies in the
FFIEC 002 and FFIEC 002s reports.
variables were scaled by the amount of
total loans.?
The regression results for the model
that includes these variables are
discussed in further detail in a separate
section below. However, statistical
analysis indicates that the relationship
between examiner hours and the
explanatory variables is highly
significant. The adjusted R-squared
statistic measures the percentage of the
total variation of examiner hours
explained by the variables included in
the regression, thereby measuring the
goodness of fit of the model. A high
adjusted R-squared (close to 1) indicates
a good fit. If all of the explanatory
variables listed above are included in
the regression analysis, the adjusted Rsquared is 0.85, which indicates that
this method of calculating predicted
examiner hours explains 85 percent of
the total variation of examiner hours for
examinations of branches and agencies
included in the sample. An adjusted Rsquared of 0.85 generally would be
regarded as very good for cross-section
data, which these data are (having been
drawn from actual examinations of
branches and agencies during the last
year). The remaining 15 percent of the
variation in examiner hours that is
unexplained by this model is
attributable to characteristics other than
the explanatory variables.
Although the total costs recovered by
the Federal Reserve using standard
hours should equal the total costs
recovered using actual hours, for some
branches and agencies there may be
considerable variation between the
standard hours predicted by the model
and the actual hours recorded for
examinations.* The Board considers that
a substantial portion of the unexplained
variation between standard and actual
hours is due to omitted supervisory and
administrative factors, such as decisions
to explore certain aspects of a bank’s
operations in greater detail, the level of
experience of various examination
* Variables that were examined but that did not
improve the predictive ability of the regression
were total assets, previous composite AIM rating,
individual components of the AIM rating other than
internal controls, the dollar amount of total assets
booked in off-shore branches, and off-balance sheet
credit activities.
3 In 76 percent of the total observations in the
model, the predicted cost, which is calculated
based upon standard hours, is within a range of
plus or minus $ 10,000 of cost calculated based
upon actual hours. Ninety-two percent of the
observations are within a range of plus or minus
$20,000 and 9 9 percent are within a range of plus
or minus $ 3 0 ,0 0 0 . The average predicted
examination cost was $28,000. Fifty percent of the
observations had predicted costs based on standard
hours of less than $17,000; 75 percent had
predicted costs less than $32,000; and 9 0 percent
had predicted costs less than $65,000.
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
teams, and unavoidable interruptions in
the examination process. In
investigating differences between
standard and actual hours, the Board
found that use of examinations to train
new examiners increased actual
examiner hours significantly. The Board
considers that this is a transitory
development resulting from the
substantial build-up of staff during the
past year to meet the new FBSEA
requirements and expects this factor to
be much less significant in the future.
Other exceptional events, such as the
bombing of the World Trade Center,
which houses a number of branches and
agencies, also were found to disrupt or
prolong the examination process.
The Board also has identified two
additional bank-specific factors not
taken into account in the current model
that might have an effect on actual
examiner hours. These factors are: (1)
The presence in the branch’s or agency’s
portfolio of participations in large loans
that are examined under the Shared
National Credit Program (“shared
national credits”)r and (2) the number of
loans in a branch’s or agency’s portfolio.
All shared national credits are reviewed
centrally at the offices'of the lead banks,
which obviates the need for examiners
to analyze these loans during on-site
examinations and consequently reduces
the number of actual examiner hours.
The number of loans in a branch’s or
agency's portfolio (not just the dollar
amount of loans) also may influence the
actual number of hours necessary to
examine the branch or agency: The
greater the overall number of loans, the
more examiner time that may be
required.
Although it is possible that the effects
of shared national credits and the
number of loans are indirectly
accounted for in the model because the
model allows for economies of scale in
examining loans, the Board considers
that these factors merit further
consideration with a view to possibly
incorporating them as additional
explanatory variables in the model if
sufficient data are available. The Board
would appreciate comment on whether
these factors expressly should be
incorporated in the model or simply
taken into account indirectly through
variables that allow for economies of
scale.
Finally, as noted above, the standard
hours methodology assigns similar
hours to institutions with similar
measured characteristics. However, as
also discussed above, actual hours can
vary substantially across institutions
with similar profiles. Thus, the
difference between actual and standard
hours also may be due to differences in
actual examiner hours for institutions
with similar profiles. When these
differences in actual hours are
substantial, one would expect that the
variation between actual and standard
hours also would be substantial. Some
of these differences in actual hours
likely result from the administrative and
supervisory factors discussed above and
are smoothed out by the standard hours
methodology, as are any differences
resulting from unmeasured bank
characteristics. Any such differences
would be examined to determine
possible reasons and adjustments to the
model would be as appropriate.
The Board specifically seeks comment
from foreign banks that would be
subject1to these examination charges
regarding whether they consider the
standard hours approach preferable to
establishing the charge based upon the
actual number of hours taken to
complete the examination. The Board
recognizes that the standard hours
method is based upon complex
statistical analysis, but considers that,
once the methodology is implemented,
it may be more straightforward to apply,
more cost-effective in nature because
new record-keeping systems would not
be required by die Reserve Banks, and
more predictable in its end result In
establishing a system for recovery of
examination costs, the Board is
particularly mindful of the additional
costs potentially associated with the
implementation, maintenance and
administration of such a costassessment system; in the Board’s view,
such costs should be kept to a minimum
and certainly in proportion to the
amounts eligible for recovery.
Comments on these matters are
requested.
Specialized Examinations
The Board is mindful that the
standard hours methodology described
above may prove to be less appropriate
for certain types of examinations
conducted by the Federal Reserve,
either because the examinations are of a
specialized nature or because they may
be conducted less than annually.
Among these types of specialized
examinations are electronic data
processing (EDP) examinations,
consumer compliance examinations,
and trust examinations. The Board seeks
comment on whether, if feasible, the
costs associated with specialized
examinations should be included in the
total cost of examination and recovered
on the basis of the standard hours
methodology described above or some
variation thereof, or whether these costs
should be recovered on the basis of
actual examiner hours.
65563
Representative Offices
While the Board generally favors the
standard hours method described above,
the model discussed above is based
upon data relating to the examinations
of branches and agencies and would not
be appropriate for calculating charges
for examinations of representative
offices. Examinations of representative
offices by the Federal Reserve
commenced in late 1992. These initial
examinations by Federal Reserve
examiners have been, in large part,
exploratory, and further experience with
examinations of these offices is
necessary before examination
procedures for these offices can be
standardized. In these circumstances,
the Board considers that development of
a model for representative offices
similar to that described above is not
feasible at this time. The Board proposes
that, until further experience with
examinations of these offices is gained,
actual examiner hours will be used to
assess representative offices for
examination costs.
Identifying the Costs To Be Recovered
Another question considered by the
Board in developing this proposal is
which costs constitute the cost of
examinations, given that such costs are
the costs to be recovered by the Federal
Reserve pursuant to the FBSEA. The
Board considers that only those costs
reasonably related to the conduct of
examinations should be considered to
be the cost of examinations and assessed
against foreign banks.
The official cost accounting system of
the Federal Reserve System is known as
the Planning and Control System
(PACS). PACS is used for purposes of
developing budgets for Reserve Banks,
accounting for Federal Reserve System
expenses, and determining the cost of
its various output services, including
prices for check collection, Fed wire,
and automated clearinghouse services.
PACS data, which are available to the
public, constitute the sole source of
information on examination costs other
than examiners’ salaries, benefits, and
travel expenses. Such costs include, e.g.,
costs related to materials and supplies,
computer equipment and software, data
processing, and printing and
duplication.
The Board considers that the
fundamental role of PACS in accounting
for Federal Reserve System expenses
and its use in setting the prices of the
Federal Reserve’s services sold in the
market argue for its use as the basis for
determining the appropriate amounts to
assess foreign banks for examinations of
their U.S. Offices. As currently
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Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
examinations because of a need for their
particular expertise would charge their
time directly to the examination
activity. The Board also considered
whether certain other of the Reserve
Banks’ general overhead expenses
should be recovered from foreign banks.
The Board concluded that such costs are
too remotely related to the conduct of
examinations to include such costs in
examination charges assessed against
foreign banks.
Table 1 summarizes the direct and
support costs of examination for the
Federal Reserve System as a whole for
1993, which have been estimated based
upon PACS data. Table 1 also includes
an estimate of the additional specialist
costs associated with examination,
which under PACS presently are
included in overhead. This estimate was
derived by taking the total PACS cost
allocated to such staff and multiplying
it by .0743, which is the approximate
proportion of examination costs for U.S.
Offices of foreign banks to the total costs
for the PACS category or “service” to
which examination costs presently are
attributed. Commencing with the first
quarter of 1994, PACS will be revised
such that specialist staff used during the
course of an examination will charge
their time directly to the examination
function rather than generally to
overhead.
rate per hour.o An hourly rate would be
derived by dividing the projected total
examination costs for a given period,
e.g., a year, by the projected total hours
spent by examiners in conducting such
examinations during that period.
Hourly rates based upon projected
1993 total costs and examiner hours are
set out in Table 2.
structured, however, PACS does not
provide information sufficient to
segregate the costs incurred in
conducting examinations of U.S. Offices
of foreign banks from other examination
and supervisory costs.
Instead, these costs presently are
aggregated in PACS with the cost of
examining the U.S. subsidiaries of
foreign banks (e.g., commercial banks,
bank holding companies and their
nonbank subsidiaries, and Edge Act
corporations) and with other
examination and supervisory costs. It is
necessary, therefore, to revise PACS in
order to provide information sufficient
to segregate the costs of examining U.S.
Offices from other examination and
supervisory costs.
For this reason, the Board has
provisionally created for 1993 sub
categories referred to as “sub-activities”
in order to isolate examination costs
pertaining to U.S. Offices from these
other costs. Each Reserve Bank has
reviewed the information reported in
PACS for the first quarter of 1993 and
has provided provisional data for the
new sub-activities for that quarter, as
well as cost estimates for these sub
activities for the entire year. The
Reserve Banks also have reported total
examiner hours spent thus far in 1993
in the examination of U.S. Offices aiid
estimated total examiner hours in this
sub-activity for the year as a whole.
Commencing with the first quarter of
1994, the Board proposes to revise the
relevant PACS activities in order to
provide information sufficient to isolate
the costs of examination of U.S. Offices
of foreign banks from other examination
and supervisory costs.
The Board believes that the
information provided in the revised
PACS activities will constitute a reliable
and appropriate measure of the cost of
examination to be recovered by the
Board pursuant to the cost-assessment
provision of the FBSEA. These activities
will include both direct and support
costs as these components are defined
in PACS.«
The Board considers that certain of
the Federal Reserve System’s expenses
that under PACS presently are
categorized as overhead 5 also should be
recovered as additional direct
examination costs. Specialist staff, such
as lawyers, accountants or systems
experts, that are assigned to
The standard hours methodology
described above has been applied to
11,719,477
Total Costs .................
data for 143 full-scope U.S. Office
examinations that were completed in
Calculating the Examination Charge
1993. Table 3 sets out the definitions of
The Board proposes that a particular
the variables used in the regression. All
bank’s examination charge would be
variables specified in terms of a dollar
calculated as the product of examiner
amount are expressed in millions of
hours (either actual or standard) times a dollars.
« Direct cost* are those expenses charged directly
to a PACS activity based on actual resource usage.
Examples of direct costs include salaries and
benefits, travel, materials and supplies, equipment,
software, shipping and communications. Support
costs are charged to a PACS activity based on that
activity's usage of the support function. Examples
of support costs include data processing, office
space, housekeeping and printing and duplication.
» PACS overhead expenses consist largely of
administrative, bank services, accounting and legal
costs.
Table 1.— IProjected S ystem Costs
of E xamination of U.S. O ffices
of F oreign Banks for 1993
[In dollars]
Per year
Total PACS Direct Costs.......
Personnel...........................
Travel.................................
Other Direct .......................
Total PACS Support Costs ....
Total PACS Direct and Support Costs ..........................
Allocated Specialist Costs
(derived from PACS overhead d ata)..........................
11,023,302
10,128,406
554,621
340,275
493,806
11,517,108
Table 2.— P rojected S ystem C osts
of E xamination of U.S. O ffices
P er E xaminer Hour— E stimated
1993 Annual Dollars
Hourly
rate
Total Direct Costs1 .......................
Personnel...................................
Travel.........................................
Other Direct ...............................
Total Support Costs ......................
Total Direct and Support Costs.....
45.12
40.53
2.23
1.37
1.98
47.10
Total Examiner Hours ...................
248.773
1For purposes of this Table, the specialist
costs separately listed in Table 1 have been
included as additional direct personnel costs,
which will be the approach taken by PACS
commencing first guarter 1994 as noted
above.
Federal Reserve examination costs
vary by Federal Reserve District. The
Board considers, however, that a single
national hourly rate, representing
average Federal Reserve System costs, is
appropriate for determining banks’
assessments. This is the approach taken
by the OCC, the other Federal banking
regulator that assesses banks for its
supervisory costs including the cost of
examination. A single national rate
would be much simpler and less costly
to administer than would a system of
local rates. It also would be consistent
generally with the Board’s policy of
assuring uniformity of examination
standards and procedures throughout
the Federal Reserve System.
Regression Results
202,369
• The total of all charges for the examination of
branches, agencies, and representative offices
collected during a given period should be roughly
equivalent to the Board's aggregate examination
costs relating to those offices for the same period.
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
65565
T a b le 3 .— V a r ia b l e D e f in it io n s
Name
TOTLOANS ...... .
TOT_LE1B ______
TOT_GT1B______
IPOOR ....................
IPOORxTOT_LE1B
IPOORxTOT_GT 1B
PIBAD ____ _______
PIBADxTOTLOANS.
AIMPOOR.... ........
OFF_LE1B ______
OFF GT1B............
OBS_LE1B______
OBS_GT1B „.........
NONACCR___
PASTDUE _______
Definition
Total loans of the branch or agency.
The amount of total loans that is less than or equal to $1 billion.
The amount of total loans that is greater than $1 billion.
Indicator variable nmial to 1 if th e cu rrent i rati no is 3 or w orse, otherw ise eau al to zero .
The product of IPOOR and TOT_LE1B; for branches or agencies with current 1 of 3 or worse, equal to the amount of
total loans that is less than or equal to $1 billion, otherwise equal to zero.
The product of IPOOR and TOT_GT1B; for branches or agencies with current I of 3 or worse, equal to the amount of
total loans that is greater than $1 billion, otherwise equal to zero.
Indicator variable equal to 1 if the previous 1 rating is 4 or worse, otherwise equal to zero.
The product of PIBAD and TOTLOANS; for branches or agencies with previous 1 of 4 or worse, equal to the amount of
total loans, otherwise equal to zero.
Indicator variable equal to 1 if the current AIM rating is 3 or worse, otherwise equal to zero.
The amount of loans administered by the branch or agency but booked off-shore Toff-shore loans”) that is less than or
equal to $1 billion.
The amount of off-shore loans that is greater than $1 billion.
The amount of the sum of commitments to purchase foreign currency and U.S. dollar exchange and the notional value of
outstanding interest rate swaps ("off-balance-sheet derivatives”) that is less than or equal to $1 billion.
The amount of off-balance-sheet derivatives that is greater than $1 billion.
T h e am ount of loan s in n on -accru al statu s.
The amount of loans past-due 90 days or more.
The regression results reported in
Table 4 can be used to devise a schedule
of standard examiner days based on the
characteristics of U.S. branches and
agencies.7 This schedule can be
represented by a formula, which is
derived by multiplying each variable by
its corresponding coefficient:
Standards days=27.3 + 0.0315x
T O T _ L E lB + 0 . 0118 X TOT__GTlB +
0.0098X IPOORx T 0T _L E 1B ♦ 0.12x
IPOORx T O T _G T lB + 0.25x PfflADx
TOT_LOANS + 15.3x AIMPOOR +
0.039X OFF__LElB + 0.0167X
O F F _G T lB + 0.0377X O B S _L E lB +
0.0004X O B S _G T lB + 0.0981X
NONACCR + 0.228X PASTDUE.
T a b le 4 .— R e g r e s s io n R e s u l t s : E x
a m in e r -D a y s
R eg ressed
on
B r a n c h a n d A g e n c y C h a r a c te r
is t ic s — Continued
INTERCEPT ......................
•Significant at the 5 percent confidence
level.
•'Significant at the 1 percent confidence
level.
loans, then the increment to standard
days attributable to total loans is 31.5
days ($1,000 million times 0.0315) plus
0.0118 days for each million dollars of
loans in excess of $1 billion.* The next
Coefficient esti two coefficients, on
LElB and
mate (t-statistics IPOORxTOT
Variable
are listed in pa IPOORxTOT
GT lB . measure the
rentheses)
increment to standard days (over and
above that already added by
—
15.3*
AIMPOOR_________
TOT
LElB and TOT___ GTlB)
(2.5)
0.0390** required to examine loans if the
OFF LE1B ...............
branch’s or agency’s I rating is 3 or
(2.9)
OFF GT1B ...............
0.0167** worse.* For branches or agencies with
(3.5)
total loans less than $1 billion and an
0.0377** I rating no better than 3, the increment
OBS LE1B...............
(3.6)
to standard days attributable to total
0.0004*
OBS GT1B ____ ___
loans increases by an additional 0.0098
(2.5)
days per million dollars of loans (the
0.0981
T a b le 4 .— R e g r e s s io n R e s u l t s : E x NONACCR ................
coefficient on IPOORxTOT
GT lB ).
(1.1)
a m in e r -D a y s
Reg ressed
on
for a total of 0.0413 days per million
0.228
PASTDUE ...................
B ra nc h a n d A g en c y C ha r a c ter
dollars of loans. For branches or
(0.6)
is t ic s
agencies with total loans above $1
Adjusted R* ...............
0.85
billion and an I rating no better than 3,
Coefficient esti Regression F-statistic sigstandard days increases by an additional
nificance level (in permate (t-statistics
0.120 days per million dollars of loans
Variable
67.7
cents) ___________
are listed in pa
in excess of $1 billion (the coefficient on
rentheses)
0.01
IPOORxTOT
LElBl. for a 0.1318,
TOT LE1B .......................
TOT GT1B ......................
IPOORxTOT_LE1B .........
IPOORxTOT_G T1B ____
PIBADxTOTLOANS ..........
27.3**
(6.6)
0.0315**
(3-2)
0.0118*
(2.6)
0.0098
(0.6)
0.120**
(6.9)
0.250**
(7.4)
? For ease of interpretation, the regression results
are presented in terms of days, as opposed to
examiner hours. To convert standard examiner days
to examiner hours, sim ply multiply standard days
by eight
The coefficient on the INTERCEPT
indicates that the minimum standard
days for an examination is 27.3 days.
The next two coefficients, on
TOT____.LElB and TOT___ GTlB,
measure the number of additional
examiner days typically needed to
examine a given amount of total loans.
If the branch or agency has less than $1
billion in total loans, then the increment
to standard days is 0.0315 days per
million dollars of loans. If the branch or
agency has more than $1 billion in total
8 This result suggests that there may be economies
of scale in examining total loans. As discussed
above, examiner hours likely increase with the
number of loans, but decrease with the number of
loans that are shared national credits. At larger
values of total loans, the number of loans likely
increases at a slower rate because both loan size and
the number of shared national credits likely
increase. This would create the observed
relationship between total loans and examiner
hours— examiner hours increase as total loans
increase, but they increase more slowly at higher
values of total loans.
9 Poor internal controls in a banking office
generally lengthen the amount of time it takes-to
examine an office of any particular size. Regression
results indicate that scaling this variable against
total loans provides a reasonable basis for
a charge taking into account this variable.
65566
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
plus an additional 9.8 days for the first
S i billion, for a total of 41.3 days for the
first billion. The coefficient on
PIBADxTQT
LOANS. 0.25, is the
increment to standard days per million
dollars of loans for branches or agencies
that have an I rating of 4 or worse in the
previous exam. The coefficient on
AIMPOOR indicates that the increase in
the minimum standard days for a
branch or an agency with a current AIM
rating of 3 or worse is 15.3 days.
The marginal cost in examiner days of
examining off-shore loans and offbalance-sheet derivatives also declines
as total off-shore loans and the notional
value of derivatives, respectively,
exceed $1 billion. The coefficient on
OFF
LElB indicates that up to the
first billion dollars of off-shore loans,
standards days increase by 0.039 per
million. Above the first billion dollars of
off-shore loans, standard days increase
by 0.0167 days per million of these
loans (the coefficient on OFF
GT lB i.
The coefficient on OBS
LElB
suggests that up to the first billion
dollars of off-balance-sheet derivatives,
standard days increase by 0.0377 per
million. Above the first billion dollars of
off-balance-sheet derivatives, standard
days increase by 0.0004 days per
million of the notional value of these
instruments (the coefficient on
OBS___ GT1B).
The coefficients on NONACCR and
PASTDUE indicate that standard days
increase 0.0981 and 0.228, respectively,
per million dollars of loans in non
accrual status and past-due loans. Note
that the coefficients on NONACCR and
PASTDUE are not statistically
significantly different from zero.
However, one would expect that these
variables should have an influence'on
the amount of time required to perform
an examination. Since it may be the case
that these variables are insignificant
because of the small sample size, these
variables are included for consideration.
If the coefficients remain insignificant
when estimated using a larger sample,
they may be removed from the model.
Paperwork Reduction Act
No collections of information
pursuant to section 3504(h) of the
Paperwork Reduction Act (44 U.S.C.
3501 et seq .) are contained in the
proposed rule.
Regulatory Flexibility Act
The Regulatory Flexibility Act (5
U.S.C 601-612) does not apply to a rule
of particular applicability relating to
rates, wages, corporate or financial
structures or reorganizations thereof. Id.
at 601(2). Accordingly the Act’s
requirements regarding an initial and
(c) of this section. The foreign bank or
its parent shall pay to the appropriate
Reserve Bank or, if so directed, to the
Board the amount assessed for the cost
of such examination.
(2) D eterm ination o f cost. The cost
assessed by the Board, pursuant to
paragraph (d)(1) of this section, shall be
determined by multiplying the standard
hours, determined pursuant to
paragraph (d)(3) of this section, by the
hourly rate, determined pursuant to
paragraph (f) of this section.
(3) L in ea r R egressio n ; standard hours
form ula , (i) The standard hours for a
branch or agency of a foreign bank shall
be calculated by using a formula derived
from a linear regression that relates
examiner hours to characteristics of U.S.
branches or agencies of foreign banks.
(ii) The linear regression shall be used
to estimate coefficients for each
characteristic included in the
regression.
(iii) The formula shall be used to
calculate standard hours for each branch
or agency of a foreign bank examined by
the Federal Reserve by multiplying each
regression coefficient by the value of the
corresponding characteristic of the
branch or agency and adding the
products to the intercept, which is the
minimum number of standard hours for
an examination.
(iv) The value of each of the
characteristics used in the calculation
described in paragraph (d)(3)(iii) of this
section shall come from the same
sources as the regression data described
in paragraph (d)(4) of this section, but
shall be the most recent data that are
available upon completion of the
examination for which the charge is
being assessed.
(4) R egression data, (i) The data used
PART 211— INTERNATIONAL
in the regression shall be collected from
BANKING OPERATIONS
one or more of the following sources:
(REGULATION K)
examination reports and Federal
1. The authority citation for part 211
Financial Institutions Examination
is revised to read as follows:
Council Forms 002 and 002s.
(ii) The data used in the regression
Authority: 12 U.S.C. 221 etseq., 1841 et
shall include data for the year in which
seq., 3101 et seq., 3901 et seq., title II, Pub.
L. 97-290, 96 Stat. 1235; and title III, Pub.
the “Notice of Standard Hours Formula
L. 100-418,102 Stat. 1384.
and Hourly Rate for Examinations of
U.S. Offices of Foreign Banks” (hereafter
2. Section 211.26 is amended by
referred to as “Notice”), provided for in
adding paragraphs (d) through (g) to
paragraph (g) of this section, is
read as follows:
published in the Federal Register.
§ 211.26 Examination of offices and
(iii) The data used in the regression
affiliates of foreign banks.
may, in the discretion of the Board, also
*
*
*
*
*
include data relating to previous years,
(d)
Cost o f exa m in atio ns o f bra n ch es if including such data improves the
a n d a gen cies —
predictive ability of the regression and
(1) A ssessm en t a n d paym ent o f costs.
examiners’ practices have not changed
The Board shall assess against the
significantly since that time.
foreign bank or its parent the cost of any
(5) R egression variables.
examination of its U.S. branches or
Characteristics that, in the discretion of
agencies conducted by the Federal
the Board, may be specified as variables
Reserve pursuant to paragraphs (a)(1) or in the regression include:
final regulatory flexibility analysis (id.
at 603 and 604) are not applicable here.
In any event, two of the requirements
of an initial regulatory flexibility
analysis—a description of the reasons
why the action of the agency is being
considered and a statement of the
objectives of, and the legal basis for, the
proposed rule—are contained in the
supplementary information above. The
Board’s proposed rule would require no
additional reporting or recordkeeping
requirements by the public; nor are
there relevant Federal rules that
duplicate, overlap, or conflict with the
proposed rule, other than as required by
law.
Another requirement of the initial
regulatory flexibility analysis is a
description of and, where feasible, an
estimate of the number of small entities
to which the rule shall apply. The
Board’s proposed rule would apply to
all U.S. Offices of foreign banks, and
would charge each foreign bank for the
costs of examination attributable to that
bank’s U.S. Offices, as required by
Congress. Thus, the proposed rule
fulfills the primary purpose of the
Regulatory Flexibility Act, which is to
make sure that agencies’ rules do not
impose disproportionate burdens on
small businesses.
Accordingly, the Board hereby
certifies that the proposed rule, if
adopted in final form, will not have a
significant economic impact on a
substantial number of small entities
within the meaning of the Regulatory
Flexibility Act.
For the reasons set out in the
preamble, 12 CFR part 211 is proposed
to be amended as follows:
Federal Register / Vol. 58, No. 239 / Wednesday, December 15, 1993 / Proposed Rules
(i) The dollar amounts of each of total
assets, total loans, loans administered
by a U.S. branch or agency but booked
in off-shore branches, off-balance sheet
derivative and credit activities, loans in
non-accrual status, loans past due 90
days or more, and classified assets; and
(ii) The composite AIM rating and the
individual components of the AIM
rating (asset quality, internal controls,
and management).
(6) O ther considerations regard in g
variables. In order to improve the
predictive ability of the regression, in
the light of developments regarding
characteristics of branches or agencies
of foreign banks or the Federal Reserve’s
examination practices, the Board may:
(i) Include additional variables other
than those specified in paragraph (d)(5)
of this section;
(ii) Drop variables or amend their
specification, if appropriate, to allow for
possible interactions between variables
or non-linear relationships; or
(iii) Include lagged values of some
variables.
(7) F actors co n sid ered in d eterm in in g
regression variables. In determining
which variables to include in the
regression, the Board shall consider:
(i) The likelihood that a variable
would influence examiner horns
significantly or would serve as a proxy
for unmeasured variables that would
influence examiner hours significantly;
(ii) The variable’s contribution to the
predictive ability of the regression; and
(iii) The reasonableness of the signs
and magnitudes of the estimated
coefficients.
(8) P ublication o f standard h o u rs
form ula a n d h o u rly rate. The formula
for calculating standard hours pursuant
to paragraph (d)(3) of this section shall
be published in the Notice provided for
in paragraph (g) of this section.
(e) Cost o f exam ination o f
representa tive o ffices —
(1) A ssessm en t a n d p ay m ent o f costs.
The Board shall assess against the
foreign bank the cost of any examination
of its representative offices conducted
by the Federal Reserve, pursuant to
paragraph (a)(2) of this section. The
foreign bank shall pay to the appropriate
Reserve Bank or, if so directed, to the
Board the cost of such examination.
(2) D eterm ination o f cost. The cost
assessed by the Board, pursuant to
paragraph (e)(1) of this section, shall be
determined by multiplying the actual
number of hours taken to examine the
representative office by Federal Reserve
examiners by the hourly rate,
determined pursuant to paragraph (f) of
this section.
(f) C alculation o f h o u rly rate —(1)
Form ula. The hourly rate charged by the
Board, pursuant to paragraphs (d)(2) and
(e)(2) of this section, shall be calculated
as follows:
65567
Board of Governors of the Federal Reserve
System, December 9,1993.
W illiam W . W iles,
Secretary o f the Board.
(FR Doc. 93-30537 Filed 12-14-93; 8:45 am)
EH
where:
DC: Direct costs
SC: Support costs
EH: Examiner hours
HR: Hourly rate
(2) C om ponents o f form ula. The
component parts of the hourly rate
formula set out in paragraph (f)(1) of
this section are defined as follows:
(1) D irect co sts: Those expenses
budgeted for the coming year to be
charged directly to the Federal Reserve’s
Planning and Control System (PACS) for
the examination of U.S. branches,
agencies and representative offices of
foreign banks, including, but not limited
to, expenses relating to salary and
benefits,travel, materials and supplies,
equipment, software, shipping, and
communications.
(ii) S up p o rt co sts: Those expenses
budgeted for the coming year to be
charged to PACS for the usage of
support functions during the course of
examinations of U.S. branches, agencies
and representative offices of foreign
banks, including, but not limited to,
expenses relating to data processing,
office space, housekeeping, and printing
and duplication.
(iii) E xa m in er h o u rs: The number of
hours budgeted for on-site examinations
of U.S. branches, agencies, and
representative offices of foreign banks
by examiners for the coming year.
(3) P ublication o f h o u rly rate. The
hourly rate determined pursuant to
paragraph (f) of this section shall be
published in the Notice provided for in
paragraph (g) of this section.
(g)
N otice o f sta n d a rd h ou rs form ula
a n d h ou rly ra te fo r exam inations o f U .S.
o ffices o f fo reign banks —(1) D ecem b er
N otice. A Notice shall be published in
the Federal Register by the Board no
later than the first business day in
December of each year. The Notice shall
specify the standard hours formula and
the hourly rate to be used by the Federal
Reserve to charge for the examination of
U.S. branches, agencies, and
representative offices of foreign banks
and shall be effective on January 1 of the
calendar year following publication.
(2) Interim o r a m en d ed n otice. The
Board may publish in the Federal
Register an interim or amended Notice
from time to time throughout the year.
Unless otherwise specified, an interim
or amended Notice will be effective 30
days after the date of publication in the
Federal Register.
BILUNQ COOE S210-01-M
@FedFRASER