FRB Vice Chair Recommends Reform of Banking Supervisory Rating System

Federal Reserve Board ("FRB") Vice Chair for Supervision Randal K. Quarles pointed to the banking supervisory ratings framework as an area for reform.

At the FRB, Harvard Law School and Wharton School Conference, "Bank Supervision: Past, Present, and Future," Mr. Quarles expressed concern about the lack of empirical analysis behind the "theory of ratings"; specifically, the lack of studies looking at where to "draw the line" between a satisfactory and unsatisfactory rating. Mr. Quarles stated that his "lodestar" to provide more consistent and predictable ratings is to rely on empirical analysis aimed at creating a supervisory process with more repeatable outcomes. To this end, Mr. Quarles suggested, first, subjecting ratings to the scrutiny of multiple parties (potentially through a ratings committee) and weighing a firm's compliance with regulatory standards into its ratings assignment and, second, inviting comment on supervisory guidance. He argued that empirical analysis should focus on ratings consequences (i.e., the satisfactory and unsatisfactory designation) and the "proper calibration" of the circumstances that prompted the rating relative to the consequences of the rating.

Mr. Quarles said he directed staff to look into (i) the qualitative elements of the ratings framework, (ii) public clarity surrounding the weight of quantitative versus qualitative elements and (iii) the effectiveness of large financial institution (or "LFI") ratings relative to risk management, financial condition and impact (or "RFI") ratings.