Regional President Speech

SILAS KEEHN REMARKS REGIONAL SUPERVISORY MEETING FEDERAL RESERVE BANK OF CHICAGO APRIL 29, 1987 I. WON'T SPEND TIME FORECASTING THE OUTCOME OF CURRENT AND PROSPECTIVE DEVELOPMENTS A. WE I D ALL AGREE THE FINANCIAL SERVICES INDUSTRY HAS AND WILL CONTINUE TO CHANGE 1. WHETHER OR NOT CONGRESS WILL RESPOND WITH LEGISLATIVE CHANGES - QUESTIONABLE 2. MARKET PRESSURES WILL CONTINUE B. THOUGH PERHAPS OPEN TO SOME DISCUSSION, BANKS, PARTICULARLY LARGE BANKS, HAVE BEEN LOSING MARKET SHARE 1. ACCEPTING THIS PREMISE, THIS SUGGESTS THAT BANKING ( IN A BROAD SENSE) NOW ACCOUNTS FOR A SMALLER PROPORTIONATE SHARE OF THE FINANCIAL SYSTEM THAN WHEN THE TRADITIONAL SAFETY NET AND THE SUPERVISORY FRAMEWORK WERE PUT IN PLACE Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 2 2. THE SUPERVISORY STRUCTURE IS NOW, IN A RELATIVE SENSE, LESS ABLE TO DEAL WITH THIS RAPIDLY EXPANDING FINANCIAL SYSTEM 3. THE IMPLICATION - WE WILL NEED TO CHANGE OUR SUPERVISORY APPROACH TO DEAL WITH OUR RESPONSIBILITIES II. OUR SUPERVISORY RESPONSIBILITIES - FROM THE POINT OF VIEW OF THE FEDERAL RESERVE - THESE ARE MY PERSONAL VIEWS A. MAINTAINING AND ASSURING FINANCIAL STABILITY THROUGH - 1. SOUND AND ST ABLE MONEY SUPPLY AND A SMOOTHLY FUNCTIONING PAYMENT SYSTEM, OR 2. BY PROTECTING THE FINANCIAL SYSTEM AGAINST CRISES THAT COULD BECOME SYSTEMIC - WHILE NOT MUTUALLY EXCLUSIVE, IF ONE LEANS TOWARD THE LATTER ALTERNATIVE, THEN STABILITY MIGHT BE FURTHER DEFINED AS PREVENTING Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 3 A. EVENTS THAT COULD BE LARGE ENOUGH IN THEMSELVES TO BECOME SYSTEMIC (E.G. CONTINENTAL) B. OR EVENTS, THOUGH SMALLER IN TERMS OF INDIVIDUAL MAGNITUDE, NONETHELESS MIGHT BE LARGE ENOUGH THAT THEY COULD SPREAD AND BECOME DESTABILIZING B. WOULD EMPHASIZE THAT MY COMMENTS REFLECT MY FEDERAL RESERVE RESPONSIBILITIES 1. WHILE THE ABOVE ALTERNATIVES NOT MUTUALLY EXCLUSIVE - I HAVE A HARD TIME REALLY DELINEATING OUR RESPONSIBILITIES SO CLEARLY 2. I CERTAINLY THINK THE LATTER - WITH ITS CREDIT ORIENTATION - BECOMES A CRITICAL CONSIDERATION - {) "'"' ~_CONTINENTAL ~ ~~ • ~ ~ l / -~s - II I. THE ALTERNATIVES - YOU Mf\Y HAVE SEEN JERRY CORRIGAN' S RECENT PAPER Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 4 A. RE-REGULATION - TOOTHPASTE BACK INTO THE TUBE B. MOVE ALONG ON A VERY AD HOC BASIS, WHICH IS THE CURRENT SITUATION 1. MAYBE NOT THE MOST DESIRABLE BUT PERHAPS THE MOST LIKELY OUTCOME C. BROADEN THE REGULATORY STRUCTURE TO DEAL WITH LARGER FINANCIAL ENTITIES THAT WILL BECOME INCREASINGLY COMPLEX D. NARROWLY CONSTRAIN AND LIMIT THE SAFETY NET TO THOSE PARTS OF THE ENTITY WITH DIRECT ACCESS TO THE DISCOUNT WINDOW AND THE PAYMENTS MECHANISM E. IN MY VIEW, OPTION9 IS WHERE WE WILL END UP GOING 1. AT THE END OF THE DAY, OUR PUBLIC RESPONSIBILITY WILL PLACE US THERE ANYWAY IV. THE FUNDAMENTAL QUESTION - HOW MUCH SUPERVISORY INVOLVEMENT DOES THE FEDERAL RESERVE REALLY NEED TO HAVE TO DEAL WITH OUR CENTRAL BANKING RESPONSIBILITIES Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 5 A. WE ARE FACED WITH CONFLICTING OBJECTIVES - VERY DIFFICULT BALANCE 1. ON ONE HAND MINIMIZING POTENTIALLY DESTABILIZING EVENTS WHICH SUGGESTS A RELATIVELY HIGH DEGREE OF SUPERVISORY AND REGULATORY INVOLVEMENT, (MORE, MUCH MORE IS BETTER) BUT THIS HAS COMPETITIVE AND EFFICIENCY IMPLICATIONS - ON THE OTHER HAND 2. THE NEED TO MINIMIZE THE REGULATORY BURDEN TO KEEP THE INDUSTRY WE SUPERVISE AS COMPETITIVE AS POSSIBLE (LESS IS BEST) A. TO THE EXTENT THAT BANKS AND OTHERS THAT WE SUPERVISE CARRY A DISPROPORTIONATE SHARE OF THE REGULATORY BURDEN, THE DIFFERENTIAL WILL RESULT IN THE CONTINUED DECLINE IN MARKET SHARE B. AN IMPORTANT ISSUE ON THE REGULATORY SIDE WITH REGARD TO THE DUAL BANKING SYSTEM IS THE ROLE OF THE STATES Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 6 IN SETTING THE SCOPE OF ACTIVITIES FOR STATE BANKS; I DO NOT HAVE THE ANSWER, BUT I SEE IT AS AN ISSUE CONFRONTING THE REGULATORY SYSTEM 1. LATELY THE STATES HAVE BEEN LEADING THE WAY (E.G. REAL ESTATE DEVELOPMENT AS A PERMITTED ACTIVITY) 2. STILL ANOTHER ASPECT OF THE DUAL BANKING SYSTEM IS THE MATTER OF DUPLICATION OF SUPERVISORY EFFORTS. SIGNIFICANT DUPLICATION EXISTS AND THE QUESTION WHICH I RAISE IS WHETHER WE HAVE OPTIMIZED OUR ABILITY TO AVOID DUPLICATION. C. USING THE DUPLICATION ISSUE AS A BASIS FOR AN OBSERVATION, PRACTICALLY, THE FEDERAL RESERVE DOES NOT NEED TO HAVE DIRECT SUPERVISORY RESPONSIBILITY FOR THE SMALL BANK/BHC EVEN THOUGH THEY DO HAVE ACCESS TO THE DISCOUNT WINDOW/PAYMENTS MECHANISM 1. INDIVIDUALLY, INDEED EVEN COLLECTIVELY, AT LEAST TO A REASONABLE DEGREE, THEY ARE NOT SYSTEMIC Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 7 2. FAILURES AMONG SMALL BANKS HAVE AND WILL CONTINUE TO OCCUR WITHOUT DISRUPTING THE FINANCIAL FABRIC 3. ONE APPROACH WOULD BE FOR THE FEDERAL RESERVE TO PLACE INCREASING RELIANCE ON THE STATE AUTHORITIES, AND TO THE EXTENT THAT THEY HAVE THE RESOURCES, REDUCE OUR SCHEDULES FOR THESE SMALLER BANK ENTITIES 4. THIS WILL REDUCE THE REGULATORY BURDEN FOR THIS CATEGORY OF BANKS, GIVE THE STATES GREATER AUTHORITY FOR THEIR INSTITUTIONS AND AT LEAST PARTIALLY DEAL WITH THE DUPLICATION NOTED ABOVE V. ALTERNATIVELY, THEN, OUR PRINCIPAL SUPERVISORY FOCUS SHOULD BE ON THE LARGER FINANCIAL INSTITUTION THAT WILL BECOME GROWINGLY COMPLEX, PERHAPS EVEN HAVING FULL FINANCIAL POWERS. IF SO, I 1D SUGGEST SOME FURTHER REFINEMENTS TO THE SUPERVISORY APPROACH Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 8 A. THE SEPARATION BETWEEN THE FEDERAL RESERVE AS A BHC SUPERVISORY AND THE RELEVANT BANK SUPERVISORY OF SUBSIDIARY BANKS IS AT LEAST UNNATURAL AND IS ORGANIZATIONALLY IMPERFECT. THE BUSH TASK FORCE PROPOSAL PARTIALLY ADDRESSED THIS ISSUE. HOWEVER, IT DID NOT PROPOSE ANY CHANGE RELATIVE TO THE LARGE NATIONAL BANKS, AND THAT IS THE AREA OF GREATEST INTEREST TO ME. 1. AS LARGER FINANCIAL ENTITIES CONTINUE TO EVOLVE, WE WILL NEED TO HAVE DIRECT SUPERVISORY INVOLVEMENT WITH THE LARGE BANKS THAT ARE A PART OF THESE ENTITIES 2. RISK ORIENTED CAPITAL GUIDELINES, AS AN EXAMPLE, WILL REQUIRE A HIGHER LEVEL OF SUPERVISORY INVOLVEMENT IN THE NON-TRADITIONAL BANKING ACTIVITIES - I.E. THIS PROVIDES US WITH A LOGICAL BASIS TO EXPAND Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 9 3. THOUGH INITIALLY OUR ROLE WITH LARGE NATIONAL BANKS COULD WELL JUST INVOLVE EXAMINATION FOR THE PURPOSE OF GATHERING INFORMATION, JOINT EXAMINATIONS WITH THE COMPTROLLER IN WHICH WE WOULD HAVE A GREATER PARTICIPATIVE ROLE MIGHT EVOLVE VI. MUCH OF THIS TURNS ON THE ISSUE OF SEPARABILITY A. CAN INDIVIDUAL ACTIVITIES WITHIN THE LARGE, COMPLEX FINANCIAL ENTITY REALLY ACHIEVE SEPARATENESS 1. CAN ADVERSE EVENTS IN ONE PART OF THE ENTITY BE PREVENTED FROM CONTAMINATING THE REST 2. FOR EXAMPLE, WILL ENFORCING SECTION 23-A REALLY DO THE JOB, OR 3. WHEN YOU MOST NEED SEPARATENESS, ISN'T THERE A RISK THAT THE WALL WILL BE PIERCED B. THE HEART OF THE ISSUE REGARDING THE STRUCTURE OF BANKING AND OF REGULATION IS WHETHER OR TO WHAT Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 10 DEGREE THERE CAN BE SEPARATENESS OF COMPONENTS OF THE ORGANIZATION. SEPARATENESS WITHIN THE LARGE FINANCIAL ENTITY, EVEN FOR ACTIVITIES THAT ARE VERY DIFFERENT WITHIN A SINGLE FINANCIAL STRUCTURE, IS AT LEAST OPEN TO QUESTION. SOME SUGGEST THAT SEPARATENESS CAN BE MAINTAINED BY ENFORCING SECTION 23-A BUT MOST RECOGNIZE THE PRACTICAL PROBLEMS OF ACHIEVING MEANINGFUL SEPARATENESS 1. HARDLY CLEAR CUT - CERTAINLY EXAMPLES WHERE SEPARATENESS CAN BE MAINTAINED - AT LEAST UNDER THE BEST OF CIRCUMSTANCES - BUT OTHERS, PARTICULARLY UNDER LESS THAN IDEAL CIRCUMSTANCES, WHERE IT MAY NOT WORK A. THE OVERALL CONDITION OF THE ENTITY IS KEY TO THIS DETERMINATION B. THIS SUGGESTS WE WILL HAVE TO HAVE SOME INVOLVEMENT WITH NON-BANKING SUBSIDIARIES IN Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 11 ADDITION TO THE BANKING SUBSIDIARIES, AS NOTED ABOVE, TO DETERMINE THE OVERALL CONDITION OF THE ENTITY 2. WHILE BROAD SUPERVISORY OVERSIGHT FOR THE OVERALL ORGANIZATION WOULD BE A LOGICAL STARTING PLACE A. WE WILL NEED TO BECOME MORE DIRECTLY INVOLVED WI TH THE MAJOR ELEMENTS OF THE ENT I TY, PARTICULARLY WITH THOSE ACTIVITIES THAT WILL BE COVERED BY THE SAFETY NET - BANK OR NONBANKS. THIS IS THE PRICE OF ADMISSION 3. THIS WILL INVOLVE DUPLICATION IN THE SUPERVISION OF NONBANKING SUBSIDIARIES AND WILL INCREASE THE REGULATORY BURDEN A. THIS HAS UNFORTUNATE COMPETITIVE/EFFICIENCY IMPLICATIONS, BUT DUE TO THE DECLINING MARKET SHARE OF BANKING, OUR SUPERVISORY ROLE IN THE Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 12 OVERALL FINANCIAL SYSTEM HAS BECOME RELATIVELY LESS EFFECTIVE 8. THIS WILL HELP RESTORE THE BALANCE VII. THE IMPLICATIONS FOR THE FEDERAL RESERVE IN DEALING WITH THESE SUPERVISORY ACTIVITIES WILL BE SIGNIFICANT A. WE WILL BE DEALING WITH MUCH LARGER, MORE DIVERSIFIED AND VERY COMPLEX INSTITUTIONS WHICH WILL NORMALLY HAVE BROAD NATIONAL AND VERY FREQUENTLY INTERNATIONAL PRESENCE 1. THE INTERFACE OF A RESERVE BANK WITH OUT-OF-DISTRICT STATES WILL BECOME INCREASINGLY BROADER AND MORE COMPLEX 2. CERTAINLY SPECIALIZED SKILLS AND HIGH LEVELS OF EXPERTISE WILL BE REQUIRED FOR THE EXAMINER FORCE 3. INCREASINGLY WE WILL GATHER THE INFORMATION TO CONDUCT EXAMINATIONS THROUGH ELECTRONIC METHODS - Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 13 PHYSICAL PRESENCE WILL BECOME LESS IMPORTANT - THIS ALSO HAS SOME ORGANIZATIONAL IMPLICATIONS FOR OUR EXAMINERS 4. WE MAY WANT TO MODIFY OUR APPLICATION PROCESS AND NOT BE INVOLVED IN THE PRIOR APPROVAL OR EVEN EXTENSIVE AFTER THE FACT REVIEWS OF EVERY NEW UNDERTAKING OR FORMATION THAT COMES ALONG. THIS WOULD EASE THE REGULATORY BURDEN AND ALLOW US TO FOCUS ON THE MAJOR ISSUES VIII. IN SUMMARY - GIVEN THE LIKELY DEVELOPMENTS IN THE FINANCIAL INDUSTRY, THE FEDERAL RESERVE MIGHT NEED TO A. DE-EMPHASIZE COVERAGE OF SMALLER INSTITUTIONS B. BE PREPARED TO EXPAND OUR SUPERVISION OF LARGER FINANCIAL ENTITIES ALONG THE LINES THAT I SUGGEST 1. MOST PARTICULARLY BY DIRECT INVOLVEMENT WITH ALL BANKING SUBSIDIARIES C. IF WE DON'T MAKE THIS CHANGE Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis SUPERVISORY MTG. 4/29/87 PAGE 14 1. WE MAY WELL PLACE THE EMPHASIS OF OUR RESOURCES ON THE SECTOR OF THE INDUSTRY THAT REALLY DOESN'T REPRESENT SYSTEMIC EXPOSURE 2. AND NOT HAVE INVOLVEMENT WITH THE OPERATING ASPECTS OF THE FINANCIAL ENTITIES THAT DOES REPRESENT SYSTEMIC EXPOSURE AND THAT CAN CAUSE WIDE DESTABILIZING CONDITIONS D. THESE ARE SOME OF MY OWN VIEWS - OTHERS IN THE FEDERAL RESERVE MAY HAVE SOMEWHAT DIFFERENT VIEWS - AND I WOULD WELCOME ANY OF YOUR VIEWS. YOU MIGHT NOT HAVE EQUAL TIME, BUT WE CAN SPEND SOME TIME ON IT, IF YOU WISH * * * * * Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis

Silas Keehn (1987, April 28). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_19870429_silas_keehn

@misc{wtfs_regional_speeche_19870429_silas_keehn,
  author = {Silas Keehn},
  title = {Regional President Speech},
  year = {1987},
  month = {Apr},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_19870429_silas_keehn},
  note = {Retrieved via When the Fed Speaks corpus}
}