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0 STATEMENT ON CURRENT REGULATORY AND SUPERVISORY PROPOSALS AND THEIR IMPACT ON THE DEPOSIT INSURANCE FUNDS^ SUBCOMMITTEE ON COMMERCE, CONSUMER AND MONETARY AFFAIRS COMMITTEE ON GOVERNMENT OPERATIONS U. S. HOUSE OF REPRESENTATIVES J BY v STANLEY C. SILVERBERG , DIRECTOR OF RESEARCH AND STRATEÇ/C PLANNING FEDERAL DEPOSIT INSURANCE CORPORATION 9:00 a.m. Wednesday, February 27, 1985* Room 2247, Rayburn House Office Building ÎA PRESENTED TO Mr. Chairman: I am pleased to have the opportunity to testify on behalf of the FDIC before the Commerce, on Consumer, Government and Operations Monetary on Affairs Subcommittee of the Committee various regulatory and supervisory proposals and their impact on the deposit insurance funds. You have raised a number of questions under five broad headings: (I) proposed rules on the use of expanded powers by FDIC-insured institutions; (2) capital maintenance (I) and views requirements; (3) the coordination (2) between the FDIC and the Federal of this agency with respect loan growth by the Bank Board; and to and consistency of rules Home Loan Bank Board; restrictions (5) the financial imposed on in (4) the savings and condition of the FDIC Deposit Insurance Fund. I will my address each presentation prepared questions, if remarks these I adjust do I will of not try general the sequence adequately to respond questions, of respond in more although my to it will responses. some of detail Insofar as my your today or simplify more specific in a subsequent written submission. Proposed Rulemaking on Various Bank Activities On August 30, 1983 the Board of Directors of the FDIC adopted an Advance Notice of Proposed Rulemaking soliciting comment on the need for rulemaking to govern the direct or indirect involvement of insured banks in real estate 2 brokerage and underwriting, insurance brokerage and underwriting, data process ing for third parties, travel agency activities, and other financially related serv ices. In December 1984, the FDIC proposed rules requiring that certain activities that are otherwise permitted for banks be carried out only in bona fide subsi diaries. Certain conditions were proposed with respect other links between a bank and these subsidiaries. that a bank's to Moreover, personnel and it was proposed investment in these subsidiaries be subtracted from the bank's capital for purposes of determining whether a bank's capital meets regulatory requ irements. The activities in place are that would insurance be most affected underwriting and if the proposed real estate rules were put development. At the present time, most commercial banks do not undertake these activities because of federal and state restrictions. and New York) direct real legislation recently enacted estate related However, some states (including California legislation that permits state banks to make investments. to real Other estate states and are insurance is concerned that direct investment in these areas, development, banks the Deposit may expose Insurance Fund. to abnormal risk considering permissive underwriting. The FDIC particularly real estate thereby adversely exposing Additionally, existing accounting and regulatory requirements with respect to insurance activities argue for placing insurance underwriting other outside the bank. The areas of activity that banks FDIC's proposed rules also dealt with have been entering or may enter in the 3 future. In these areas the FDIC's preliminary conclusion was that risk consid erations did not warrant establishing separate subsidiaries. The FDIC has received a substantial Commercial volume of comments on these proposals. and savings banks have argued that the FDIC proposals are overly restrictive, whereas nonbank businesses that might be affected by bank competi tion argued that our proposed out that many experience provisions. savings in their real have estate had good performance and Some pointed favorable investments undertaken through state Comments have also pointed out that savings bank has been a successful, FDIC rules. banks regulation was too permissive. loss leeway life insurance low risk activity that should not be prohibited by If our rules were implemented without change from those proposed in December, savings banks would probably be most affected by our restrictions due to existing leeway investment powers for savings banks in many states. We are still in the process of evaluating comments on our proposal and examin ing data on savings bank and savings and loan experience in real estate invest ments. Our concern institutions to is that such loss. investment not overly expose FDIC-insured At the same time, however, limiting activities that may sometimes be the estate possible lending. approach While might we have be, for logical extension of bank real not completed our example, to we want to avoid unduly review and analysis, permit some modest one amount of direct real estate investment to be made at the bank level. We support the concept of the Bank Board's restricting investments in service corporations and other direct investments. However, these restrictions still 4 permit equity investments which are likely to be several times book capital and that suggests more than acceptable risk for many institutions. Capital Maintenance Requirements Two weeks ago the FDIC Board of Directors approved new capital for FDIC-insured, banks. savings banks and nonmember commercial Because of some adjustments on technical matters, the public release of these soon. state-chartered requirements requirements has been delayed; that release should be forthcoming There are some revisions from the proposal put forth in July, although the basic requirements — primary capital of 5.5 percent of assets and total capital of six percent -- have not been changed. We do not anticipate a substantial, immediate impact on the banking system. The direction of our thinking and that of the other federal banking agencies has been apparent for some time. As a result, many banks have taken steps to bolster their capital position during the past year. Few larger commercial banks would not be able to meet the requirements today. For the most part, primary appreciably the capital past ratios ratios several of years. and most of those larger Smaller banks have increased banks on average have had during higher capital that don’t currently meet requirements are known problem situations. Over time, we would expect capital ratios, tutions operating at or near minimum in the aggregate, to rise as insti levels increase their capital ratios to provide more flexibility to capitalize expansion or to meet adverse circum stances. This should reduce the overall level of risk in the system. While 5 some institutions will find their growth constrained -- those are the ones whose growth should be constrained -- we would not anticipate that the capital requirements will materially affect overall bank growth or have any adverse macro economic impact. The bank supervisory process will have to assure that loan chargeoff policies are sufficiently uniform so that capital will continue to be a need for monitoring sheet exposure However, ments. or other means that may the hand of supervisors will Some area of debate will be is appropriately stated. There increased risk through off-balance overly encumber be strengthened removed; a bank’s capital. by capital uniform minimum require requirements will make for a fairer system and banks will more likely take capital enhance ment action on their own. The FDIC's capital percentages that requirement are required is considerably for higher FSLIC-insured than the institutions. net worth There are other considerations related to accounting standards, asset values and other factors Over that widen the difference in requirements. the long run we think that competitive and safety considerations dictate common capital stan dards and that this parity should be achieved by raising the standards FSLIC-insured institutions rather than lowering those for banks. that the thrift would all not industry has be feasible at once. However, to it faced problems enforce is for several dramatically higher We recognize years and that capital important that we start moving for it requirements in the right 6 direction. This relates to your question on restrictions on growth. before addressing that issue, subject: However, I would like to offer some comments on a related how the FDIC's capital policy will treat mutual savings banks. Primarily because of an asset-I iabi Iity mismatch and increased deposit costs, many savings banks, like S&Ls, have experienced several losses and a deterioration in their surplus position. tions do not meet FDIC capital in the near provided future unless a several-year whose surplus Many of these institu requirements and will interest rates decline years of operating not be able to do so significantly. phase-in of our requirements for those is three percent or more. We have institutions Many of those below that level are participating in the net worth certificate program and have submitted capital plans under that program. will have to enter If they fail If they are not participating in the program they into a written agreement with the FDIC to raise capital. to enter into an agreement or to comply with be subject to enforcement action. for the economy nor the Deposit We recognize that it, they would it is neither desirable Insurance Fund to force these institutions to close. They have no stockholders who are being "bailed out" and, instances, their To assure this, continued operation restraints are does not in most increase the FDIC's exposure. placed on excessive risk taking related to asset quality and maturity mismatch and limits are placed on overly aggressive policies in bidding for deposits and taking on too much growth. Tying net worth requirements of FSLIC-insured institutions to growth. We believe that the Bank Board's policy growth is an important step toward in tying net worth requirements to improving the capital position of S&Ls. 7 We do not necessarily endorse the specific numbers since, as I have suggested, we think S&L capital Rapid liability difficult also for requirements should be much higher than present levels. growth, S&Ls to without comparable eventually achieve increases the exposure of the FSLIC. growth frequently put pressure on capital growth, satisfactory makes capital it more ratios. It Policies geared to achieve rapid interest margins and asset quality so that the performance of depository institutions in the aggregate is apt to suffer. This may seem like advocating restraints on think that is the primary issue here. and, in some instances, insolvent, free competition, but I don't When institutions are undercapitalized I don't think we can equate their pricing policies to free market behavior. Their ability to attract deposits rests almost solely upon FSLIC insurance. Any perceived positive spread on deposits may improve the net worth of the institution -- but that's not a market pricing situation. Adequately capitalized services to earn a spread at appropriate, institutions will price deposits and other least equivalent to capital costs. It is not fair or market-justified for institutions whose existence depends solely on the deposit insurer and its forebearance to undercut institutions subject to market forces and, in the process, increase the risk of the FSLIC. Some have argued that Bank Board existing customers. However, policies will prevent S&Ls from servicing it should be noted that a considerable portion of S&L growth has come from jumbo CDs and borrowings. Curtailing increases in these funding sources or substituting retail deposits for them would provide considerable room for most S&Ls to accommodate local deposit growth. 8 Consistency and Coordination As I already same for indicated, banks and we believe that capital thrifts -- whether FDIC- requirements should be the or FSLIC-insured. financial realities that prevent attaining or imposing that goal future; however, time table There are in the near we believe that should be the goal and that some realistic should be set to achieve it. This view has been expressed officials of this agency in various official and unofficial by interagency meet ings, including the Bush Task Force group and the staff discussions on deposit insurance chaired official by Mr. discussion Healey. between the capital requirements or ours. To my knowledge, Bank Board and the FDIC on no specific, their revised We have closely followed their capital proposal and, very likely, they have followed ours. man Gray and Chairman there was In addition, Isaac have addressed these I believe that Chair issues in informal discus- s ions. In addition to like capital requirements we believe that insured depository institutions should be subject to common accounting standards, similar reporting and disclosure requirements as depository and similar examination standards. institutions compete and can substitute deposit interest of the insurance for the same potential insurance for financial funds argue As long deposit customers strength, equity and the for common standards with respect to safety and soundness. The powers issue is somewhat more complicated. ences in powers between banks and thrifts There remain important differ in several areas. Many of these 9 differences can only be eliminated by Congress. term funding source (Home Loan Banks), FDIC has sought to establish rules to fund, Some, like access to a long are not easily addressed. limit risk and protect the While the insurance it does not have authority to bestow on banks powers that are not other wise present. is debatable. Whether the present system favors banks or savings and loans We would favor action by Congress to provide greater uniformity in powers as long as issues are addressed comprehensively to encompass capital and supervisory standards at the same time. With respect to the specific question on consultation regarding our proposed regulation concerning expanded powers, it should be noted that, in our current review of available data and experience on real estate development, we have sought assistance from Bank Board staff and are using studies that the Bank Board staff has undertaken or commissioned. loan experience in real estate We appreciate that savings and investment can be useful in assessing the potential risk of expanded bank activity in this area. FDIC Financial Condition Despite 79 failures of FDIC-insured banks in 1984, the FDIC's Deposit Insurance Fund (defined as its net worth) rose by more than $1.6 billion, by 10.5 percent and stood at over $17 billion increase in the Deposit deposits in increased 1984, at the end of Insurance and insured and total Insurance Fund to those at year-end the Deposit 1.20 percent of FDIC-insured deposits. Because the percentage Fund exceeded that of the ratio of the last year, 1984. deposit totals Insurance Fund was about 10 Insurance expenses FDIC's operating in I984 were about $ 1,050 million and, when added to the expenses ($ 150 million), assessment income ($1,350 million). the total absorbed most of 1984 As a result, the assessment rebate which will be credited against 1985 assessments will be modest (about $90 million), making the net assessment rate for assessment base. By law, 1984 about insurance are subtracted from gross assessment expenses I/13th of one percent of the and FDIC operating expenses income and 60 percent of the remainder is rebated to insured banks. Insurance expenses primarily reflect reserves for current year losses (reflect ing FDIC cash outlays and the estimated value of receivership assets or other assets assumed years. by the FDIC) In addition, in reserves for and adjustments to loss estimates 1984 insurance expense includes approximately $180 million net worth certificates which would have otherwise been book given to insolvent. four mutual in 1984. savings banks Total outstanding net worth certificates at the end of 1984 were $580 million, reserved for from earlier including the $180 million No loss estimate thus far has been made in connection with the Continental assistance package. It is too early to assess possible losses on the assets that have been or will be purchased from the bank. The bulk of FDIC assets were as of year-end slightly to the 1984. above their FDIC transactions from or in U.S. Government securities ($14.4 billion), At year-end the market value of these securities was book value. advances assisted to mergers. Other assets acquiring Other are principally institutions liabilities are to notes facilitate principally owed P&A notes to the Federal Reserve and Federal Home Loan Banks that were assumed in failing bank situations. In previous years, when the FDIC assisted savings bank mergers and committed to future income maintenance payments, the FDIC reserved for these expected future payments future payments. is reflected The expected value of these remaining in the FDIC's balance sheet and net worth. We believe that our balance sheet reflects a reasonable statement of our financial pos it ion. Over the past four years, the FDIC has handled a post-World War II record number of bank fai lures and has absorbed losses far in excess of those experi enced during the previous 46 years of operations. Despite this, the Deposit Insurance Fund grew by almost 55 percent from the beginning of 1981 to year-end 1984. This has been accomplished because of a large and growing investment portfol io, an assessment system that effectively passes a portion of insurance losses and to handle operating expenses to insured banks and sufficient failing and failed bank situations so as to minimize flexibility losses. We feel that the Deposit Insurance Fund and current assessment income are adequate to handle any likely number of bank failures and losses.
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