Should Banks Prepare for a Lighter Regulatory Load? The Signs Are Good
By Patrick Haggerty at Klaros Group
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Executive Summary
- Past deregulatory efforts have often nibbled around the edges of what irks banks but Trump appointees at the FDIC and the Office of the Comptroller of the Currency have proposed a major change to the examination and supervisory process.
- If implemented as written, the document would change the standard for taking certain regulatory actions and likely trim the number of enforcement actions.
- In addition, it would materially change how examiners can use “Matters Requiring Attention” in exam reports to mandate corrective action outside of formal enforcement actions.
- Many bankers will welcome the proposal. But note that this sea change coincides with a rising number of applications for traditional or specialized charters from fintechs and other companies who are newcomers to banking.
On Oct. 7, the FDIC and the Office of the Comptroller of the Currency jointly issued a proposed rule that would substantially raise the bar for taking enforcement actions against banks and requiring corrective actions in lieu of enforcement through so-called Matters Requiring Attention, or “MRAs.”
If implemented and stringently adhered to, the rule could materially alter the supervisory process and reduce the time and resources banks typically expend on addressing examiner criticisms. The move addresses a longstanding banker complaint.
The Federal Reserve has not joined the proposal, but its leadership has recently expressed similar policy priorities.
What the Proposal Would Do to the Supervisory Process
The proposed rule would adopt a formal agency definition of the term “unsafe or unsound practice,” which is one of the primary bases upon which bank regulators are authorized to issue enforcement actions.
It would, for the first time, require regulators to determine that a practice, act or failure to act either has already materially harmed the financial condition of an institution or, if continued, is likely to, or that it presents a material risk of loss to the Deposit Insurance Fund.
This is a higher standard than the agencies have historically held themselves to.
The current standard only requires that examiners find an “abnormal risk of loss or damage.” There is a potentially very wide gap between practices that are “abnormally” risky and those that are likely to “materially harm” the bank’s financial condition.
Whether or not the agencies’ interpretation will hold weight in court, adopting a higher bar internally will constrain agency decision makers and almost certainly reduce the number of enforcement actions that are issued in the first place.
The proposed rule would also self-impose more stringent standards for when examiners can require corrective actions in ordinary course exam reports.
Even highly-rated, financially sound banks expend significant time and resources responding to and remediating MRAs. These regulatory “findings” often address technical aspects of risk management and operations.
The proposal would raise the bar by prohibiting examiners from issuing an MRA unless they determine the practice, act, or failure to act could reasonably be expected to become an “unsafe or unsound practice” (under the proposal’s stricter standard), or is an actual violation of a banking-related law or regulation.
This too is a much higher standard than the two agencies currently require. The result, if strictly adhered to, could be a dramatic reduction in both the number and scope of MRAs issued to healthy institutions. Indeed, one of the agencies’ stated intentions is to reduce the “proliferation of supervisory criticisms for immaterial procedural, documentation, or other deficiencies that distract management from conducting business and that do not clearly improve the financial condition of institutions.”
That’s kind of a big deal.
Agencies’ Move Could Become a Regulatory Reset
Perhaps more than any of the other recent shifts in bank regulatory policy — and there’s been a flurry of them — this proposal seems to mark a philosophical recalibration of the supervisory process.
Bank supervision has always leaned heavily on examiner discretion and qualitative judgments, an approach that has fostered both flexibility and frustration. A move to codify strict limits on that discretion threatens to upend that dynamic.
• To its supporters, this would bring greater predictability and discipline to a system that often inundates banks with technical findings divorced from actual safety and soundness concerns.
• To its critics, it risks dulling the early-warning character of supervision by narrowing the space for examiners to address emerging problems before they manifest in measurable harm. Ideally, the former can be achieved without the latter.
Read more: Get Your Bank Ready Now for the Effects of the ‘Big Beautiful Bill’
Could This Proposal Reduce the Strength of the Examiner Corps?
One potential risk that is unlikely to draw as much attention is that tying examiners’ hands too tightly could make the job itself less engaging, exacerbating a talent drain within the regulatory ranks.
The proposal would still allow examiners to informally share their observations or recommendations outside the formal MRA process. However, those communications would inevitably carry less weight. And banks could get less out of the regulatory process as a result.
Experienced examiners often provide banks with insights that extend well beyond technical compliance, drawing on their expertise, exposure to peer institutions, and their practical understanding of emerging risks.
In the best versions of supervision, the relationship between examiners and bankers is collaborative rather than adversarial, but this only works if there is a healthy level of mutual respect. Preserving that dynamic will require ensuring that examiners still feel empowered to exercise judgment and add value, even as the thresholds for corrective action rise.
[Editor’s note: During a recent earnings briefing with analysts, William Demchak, chairman and CEO at PNC, shared early thoughts on what the changes to the MRA process would mean. See our recent earnings roundup for more.]Where the Proposal Goes from Here
The proposal is on a 60-day comment period after publication in the Federal Register. (Read the joint announcement here. Download a PDF of the document sent to the Federal Register here.)
As noted, it’s not yet clear whether the Fed will join in or adopt similar standards. State member banks may therefore not experience the same impacts as FDIC-supervised nonmember state banks and national banks supervised by the Comptroller’s Office.
The Fed also supervises all bank holding companies, so the rule’s impacts at the consolidated level may be muted for all banks (particularly larger banks) if the Fed sticks to its more lax MRA standards.
Regardless, the overall vibe coming from all three federal banking agencies (or four, if you count the Consumer Financial Protection Bureau) is that bank supervision should have a lighter touch.
Only time will tell whether that’s a good thing in the long run.
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