US GAO Finds Weaknesses in Supervisory Escalation

Late last month, the US Government Accountability Office (GAO) released the results of its review into supervisory escalation practices at several US financial regulators, identifying a number of weaknesses that require remediation.

As part of its efforts to uncover the root causes of the 2023 "banking turmoil," the GAO reviewed documents regarding the oversight of more than 60 institutions and interviewed 109 bank examiners at the Federal Deposit Insurance Corporation (FDIC), the Federal Reserve, and the Office of the Comptroller of the Currency (OCC). While the GAO determined that the OCC has a sound supervisory escalation framework and that the agency largely adheres to it, it found several weaknesses in the processes implemented by the FDIC and the Fed.

At the Fed, the GAO found a lack of enforceable rules regarding governance and risk management, which may have delayed its ability to take forceful action against Silicon Valley Bank. "Such authority may assist the Federal Reserve in taking early regulatory actions against unsafe banking practices before they compromise a bank's capital," the GAO writes. The review also identified that the Fed had yet to implement a rule aimed at promoting early remediation as required by the Dodd-Frank Wall Street Reform and Consumer Protection Act.

At the FDIC, the GAO noted the absence of a centralized system with which to track supervisory recommendations, limiting the FDIC's ability to identify emerging risks across the banks it supervises. Additionally, unlike other regulatory agencies, the FDIC does not have a formal process to ensure bank examiners and relevant stakeholders are consulted before changes and decisions are made. "Examiners from two selected banks cited concerns about managers altering conclusions without consulting the examiners or being unreceptive to divergent views," the GAO writes.

In another divergence from its regulatory peers, the FDIC does not require large bank case managers to be rotated routinely. To help ensure supervisory independence, the GAO encourages regulators to have such a policy so as to discourage close relationships between case managers and bank management.