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after the purchase. Since the Change in Bank Control Act requires that prospective buyers furnish financial information to the regulators, presumably the potential for trouble would have been disclosed.

officials at all three banking agencies believe the changein-control power has been useful. The agencies reported to the Congress in March 1981 on their use of the change-in-control authority over almost a 2-year period. Although his experience with the Change in Bank Control Act was limited, the Comptroller considered it to be a valuable and effective tool, having a deterrent effect on unqualified individuals attempting to enter the banking sector. Both FDIC and the Federal Reserve felt the act has generally fulfilled its purpose. FDIC believed it did this without undue burden on the marketplace; the Federal Reserve was not certain that the additional burdens it created were justified by the benefits to the public. The agencies also reported that the act had functioned as a mechanism for preventing nine potential purchasers with questionable or inadequate credentials from acquiring control of banks over the same period, and it had caused others to withdraw applications or not apply at all.

INFORMAL METHODS SHOULD BE
MADE MORE EFFECTIVE THROUGH
MORE SPECIFIC RECOMMENDATIONS

Because the banking agencies still use formal actions only after a bank's condition has deteriorated significantly, in order to address the management policies that cause problems before conditions worsen, the agencies must be as effective as possible with their informal methods. One way, which we pointed out in 1977, is to make more specific recommendations to bankers for solving their problems. Though bankers we surveyed found the examination process effective in many areas, clearly they perceived the regulators were much less effective at recommending useful solutions to bank problems. They also believed this was the worst aspect of examination reports.

Agencies have avoided specificity for reasons that have some merit, but we believe that the pitfalls perceived by the agencies can be avoided while providing more useful recommendations to banks.

Agencies not making specific, useful recommendations until problems become serious

Results of our survey of commercial banks and our case studies show that bank regulators now, as in our task force study, do not make specific, useful written recommendations to bank officials to solve problems until the effects are serious enough to warrant formal action. In 1977, we reported that examiners generally did not recommend how banks could correct problems. We stated our belief that examination reports should give banks, in a concise and straightforward fashion, recommendations for corrective action. 1/

Bankers today feel that, of the six objectives of the examination process we asked about, recommending useful solutions was still one of the least effectively achieved. Only 40.8 percent of bankers in general and 38.8 percent of bankers affiliated with banks warranting special attention rated the process effective or better in this area.

Both bankers in general and those affiliated with banks warranting special attention rated the clarity of reports in recommending solutions to problems lower than they rated the clarity of the other three report areas. Over 59 percent of bankers in general and 55 percent of "special attention" bank officials thought the reports were generally clear or very clear with regard to problem solutions. Although these percentages are not alarmingly low in themselves, when compared to the relatively high ratings given the other areas by bankers, they are cause for some concern, as shown in the following table:

1/0CG-77-1, pages 6-2, 6-12.

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In comments returned with the questionnaires, a number of bankers praised the examination process and felt it was beneficial to them, but others complained it was not. Typical of the latter group's comments were the following:

"[The examiners] infrequently identify causes or
make in-depth recommendations."

Examiners are "not helpful in providing solutions
to management problems."

"Emphasis is on negative aspects of examination
process with almost no attempt to make positive
recommendations to management."

We reiterate that we received favorable comments in several areas; however, those such as the ones above (one was from a special attention bank) concern us in light of the lower rating all bankers rendered in this area.

Written recommendations in case study documents we reviewed were relatively nonspecific. Examiners at all three agencies generally did not supply the banks with specific information on how to improve the banks' condition. They cited areas of concern and recommended general changes, like "improve existing problem loans" or "improve audit procedures." However, the examiners did not give specific recommendations or solutions to guide the banks towards resolving their problems. For example, in one case examiners recommended that the bank

establish a program to maintain an adequate level of liquidity, but they did not supply guidance on how to design or implement the program.

An examiner recommended in another case that the bank reduce the volume of loans to a more acceptable and manageable level, but he did not advise the bank of ways to do this.

In a few instances, the examiners did supply the banks with somewhat more specific recommendations. For example, in one case the examiner recommended reducing loan volumes, then went on to suggest how this could be done--by curtailing new credit advances, weeding out weaker borrowers, and selling residential real estate loans on the secondary market. In another case, the examiner noted that improvement in internal controls could be accomplished by rotating personnel, separating duties, and segregating accounts.

When banks deteriorate to the point at which formal action is required, Federal supervisors become very specific. In our case studies we found that agencies spelled out more specific policies, procedures, and requirements for banks in memoranda of understanding, written agreements, and cease and desist orders. Although the agencies allowed the banks some freedom in setting up their new policies and procedures, the regulators pinpointed more specifically the types of items that should be included. For instance, one bank was told in a memorandum of understanding to obtain and maintain current and satisfactory credit information on loans mentioned in the examination report. This information was to include, but not necessarily be limited to,

--the purpose of the loan;

--the source of repayment;

--income and cash flow information;

--the terms of the loan; and

--signed current financial statements for borrowers,

endorsers, and guarantors.

In another case, the bank was instructed to formulate a program to strengthen its capital structure. The written agreement listed the following items that were to be included in the program:

--The circumstances under which dividends would be

paid, as well as the dates and amounts.

--A comprehensive budget for the current and following

year.

--Procedures by which to monitor adherence to this budget.

--Plans to cover growth and operating assumptions for

3 years.

--Plans specifying at which points and under what cir

cumstances additional capital would be provided,
along with the amounts.

Agencies avoid specific recommendations

Federal regulators have been reluctant to make more sprcific recommendations before a bank's condition seriously deteriorates. Officials at the Federal banking agencies explained that they avoid making very specific recommendations for two reasons. First, they want to avoid interfering with the legitimate prerogatives of bank management. Second, the Comptroller's officials said they are afraid litigation would result from a bank's following advice and consequently suffering a financial setback.

All three regulators expressed concern that, by making specific recommendations for action, they would interfere with bank managers' prerogatives. FDIC officials felt that a wellrated bank should be able to find solutions on its own, and that FDIC did not want to cross the line between being a regulator and being a consultant. Federal Reserve officials feel that if the agency's staff were to make specific recommendations then the staff, not the bankers, would be running the banks. The Federal Reserve's job, said its officials, is to determine if a bank is operating safely and is in compliance with the law. The Comptroller's staff pointed out that a bank's board of directors might arbitrarily impose a regulator's suggestions on operating officers, thereby unfairly usurping the officers' authority

officials at both FDIC and the Comptroller's office expressed apprehension about what would happen if bankers followed their recommendations and still encountered problems. The Comptroller's officials felt that the banks would sue the Federal agencies, but they presented no evidence that would support this contention.

CONCLUSIONS

The agencies have taken positive steps to increase their use of formal action, though a certain reluctance persists. The point at which an agency should use formal enforcement measures can never be precisely defined. Legal due process does require

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