FDIC Vice Chair Asks How to Deal with Failing Banks

FDIC Vice Chair Travis Hill posed discrete questions to policymakers on "minimizing the risk and severity of disorderly bank failures."

In remarks at the Mercatus Center, Mr. Hill asked:

• Should external auditors issue "going concern" opinions about banks? Mr. Hill explained that under U.S. auditing standards, external auditors must assess and publicly disclose if a company is unlikely to meet its obligations. Mr. Hill highlighted the dilemma auditors face between avoiding past mistakes, referring to SVB and Signature Bank where banks received clean audits before failing, and the fear that issuing a public opinion could impact public confidence in the bank, resulting in a bank's failure anyway.
• To what extent, if any, should poorly-rated banks have reduced access to the discount window? Mr. Hill said that the Federal Reserve's role as a lender-of-last-resort involves offering liquidity to banks through the discount window; banks facing supervisory or financial issues are relegated to secondary credit, which imposes higher costs and restrictions. He said this policy impacted First Republic Bank significantly, as its downgrade to secondary credit due to a CAMELS ("capital, asset quality, management, earnings and liquidity") rating precipitated a liquidity crisis. He noted the criteria for rating banks include compliance or operational weaknesses in addition to financial condition. As a result, he suggested that a ratings downgrade that has nothing to do with a bank's financial condition may create financial problems for the bank.
• To what extent should the Federal Home Loan Banks ("FHLBs") lend to struggling banks? Mr. Hill highlighted that the approach of FHLBs to restrict lending to stressed banks has been quick and unpredictable, posing challenges for banks and supervisors. He encouraged policymakers to "think holistically" of cutting off banks from the FHLBs when stress occurs.