Banking on Heightened Regulatory Scrutiny
Given the Current Regulatory and Market Environment, Bank Treasurers Should Enhance Risk Management Frameworks
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November 30, 2023
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A string of bank failures in the first quarter of 2023 has led bank management teams, boards – and regulatory agencies – to take a closer look at institutions’ treasury risk management practices. While the bank failures may have accelerated rulemaking and introduced an era of stricter supervisory examinations, a host of other market trends is also adding urgency to banks’ enhancement of treasury risk management frameworks.
Market factors including central bank interest rate actions, quantitative tightening, declining bond market liquidity and commercial real estate stress are affecting deposit levels, access to funding sources, and asset valuations. For many treasurers and chief financial officers at banks across the asset size spectrum, the game has changed.1 Compliance with regulatory rules, accurate regulatory reporting, and fundamentals such as robust contingency funding plans are table stakes. Examiners expect bank management teams not only to meet the regulatory requirements but also to improve risk management practices with internal stress testing frameworks tailored to their balance sheet and business model, strong operational capabilities and sound control environments. In short, regulators are demanding that bank management teams continually improve their risk management practices and identify and remediate weaknesses faster.
The Office of Comptroller of the Currency (“OCC”) indicated its intent to have more thorough exams in its fiscal year 2023 operating plan.2 Now that the OCC’s FY 2024 has begun, banks can expect examiners to follow the priorities outlined by the OCC. Two priorities of particular interest in light of the bank failures are interest rate risk and liquidity risk management.
OCC advised examiners to “determine whether banks appropriately manage interest rate risk through effective asset and liability risk management practices.”3 OCC also noted, “Risk management should consider a robust suite of interest rate scenarios and assumption sensitivity analyses, when appropriate, as rising rates may negatively affect asset values, deposit stability, liquidity, and earnings.”4 On liquidity risk management, the OCC pointed out that “banking system liquidity remains strong, but sharp rate increases could adversely affect banks’ deposit volume or mix and reduce liquidity from investment portfolio pledging or sales because of unrealized losses” and might lead to negative net tangible equity capital, limiting banks’ access to funding.5
Opportunities for enhancement
Banks therefore should take advantage of opportunities to enhance their risk management frameworks and practices. Some key areas of focus include:
Proactive, company-driven risk management. This approach is expected by management teams, boards and regulators. Some of the following actions are embedded in regulatory rules, but banks should keep going even after meeting regulators’ prescribed steps:
- Stress testing of on- and off-balance sheet positions based on a range of relevant liquidity, interest rate and credit spread conditions, given multiple economic scenario backdrops
- Reverse stress testing to identify the scenarios that would most negatively impact a bank’s health
- Deposit segmentation, concentration analysis and stability analysis
- Early warning indicators and triggers
- Enhanced dashboards including risk metrics updated daily
- Transparent management and board reporting
- Operational readiness for pledging of securities and loans
- Risk data tracing, lineage and governance
These analyses, exercises and reporting capabilities help to formulate a risk management framework that enables efficient decision making, governance and accountability.
Planning with deposit impact in mind. Another opportunity to enhance risk management is considering current macroeconomic factors and central bank activities when planning. For example, banks should estimate the ongoing deposit impact from the Federal Reserve’s (“The Fed”) quantitative tightening program and resulting reduction of liquidity in the financial system. Similarly, banks should evaluate potential deposit volatility drivers such as changes in the Fed’s balance sheet including the size of the Reverse Repo Program and the Treasury General Account.6 In addition, banks should determine the extent to which brokered deposits are an adequate and efficient solution to replace declining client deposits.7 U.S. banks now hold about $1.2 trillion in brokered deposits and at some institutions, brokered deposits represent more than 10% of their total deposits.8 The quick boost from brokered deposits may be outweighed by greater cost, potential for increased liquidity risk and, negative feedback from regulators and rating agencies.
Prepare for the impact of new rulemaking and guidance. Even if your bank isn’t directly affected by new rules, consider that the underlying ideas, purpose and function of the rules could be directly or indirectly applied to any bank:
Basel III endgame. The Fed, FDIC and OCC have all requested public comment on proposed rules to strengthen capital rules for large banks under the final components of the Basel III framework.9 While the Basel III endgame would apply to banks with $100 billion or more in total assets, it raises important issues about Tier 1 equity capital adequacy. The Bank Policy Institute (“BPI”) asserts that increasing capital requirements on large banks is not only unnecessary but also will reduce GDP, and it advocates for withdrawal of the proposed rule change.10 The Basel III endgame proposal might evolve, but institutions should conduct a pro forma impact analysis, consider data and technology requirements, and think about communication strategies for investors.
Resolution planning. The FDIC is proposing to strengthen its resolution plan rule for Insured Depository Institutions (“IDIs”) in the event an IDI experiences material distress or failure. The proposal would require large IDIs to submit more robust resolution plans and, for smaller IDIs, a comprehensive strategy every two years.11 This strategy requirement for IDIs with total assets between $50 billion and $100 billion would require institutions to analyze operating under a bridge bank approach, along with plans for legal entity simplification, enabling continuation of critical services and implementing data rooms to house critical documents.
Long-term debt requirements. Under current rules, large and complex banks must meet total loss-absorbing capacity requirements, which include maintaining a certain amount of long-term debt. Under a proposed rule change from the Federal Reserve Board and FDIC, all large banks with total assets of $100 billion or more would have to meet long-term debt requirements.12 Items for bank treasurers and CFOs to consider include: determining shortfalls and leaving ample time to address them; evaluating optimal debt terms; estimating the impact to net interest revenue and net interest margin; and considering the impact on the leverage ratio and liquidity buffers.
Liquidity risks and contingency planning. U.S. banking regulatory agencies issued guidance in July 2023 on funding and liquidity risk management, recommending institutions maintain contingency funding plans that take into account a range of potential scenarios.13 An important tool for banks that have liquidity stress is the Fed’s discount window. However, planning to access the window is not quite the same as being prepared to do so. Banks therefore should improve their operational readiness and test the processes they will need to perform at the window, from identifying and pledging eligible assets to pre-pledging assets. A good practice used by many large banks is to test the window by borrowing small amounts on a quarterly basis.
Clearly, there is a cost to getting things right in a bank’s risk management practices up front and then staying compliant by investing in enhancements. But that cost is much lower than the financial and potential reputational impact to the institution if regulators identify problems and dictate the remediation requirements. Banks that aspire to achieve or maintain industry leadership positions will understand that an ounce of prevention is worth a pound of cure, especially preventative measures that improve the overall risk management framework and keep bank examiners satisfied.
Footnotes:
1: “US banks report $872B YOY drop in deposits,” Zuhaib Gull, S&P Global Market Intelligence (September 25, 2023), .
2: “Fiscal Year 2023 Bank Supervision Operating Plan,” Office of the Comptroller of the Currency Committee on Bank Supervision (2022), .
3: Ibid.
4: Ibid.
5: Ibid.
6: William J. Perlstein, “What’s Next for the Treasury General Account?”, FTI Consulting (June 02, 2023),
7: “Banks Load Up on $1.2 Trillion in Risky ‘Hot’ Deposits,” Wall Street Journal (September 12, 2023),
8: Ibid.
9: “Agencies request comment on proposed rules to strengthen capital requirements for large banks,” Board of Governors of the Federal Reserve System (July 23, 2023),
10: “Basel Endgame: Background and Key Issues,” BPI (September 5, 2023),
11: “Fact Sheet on Proposed Rule on Resolution Planning for Insured Depository Institutions,” Federal Deposit Insurance Corporation (August 29, 2023),
12: “Fact Sheet on Proposed Rule to Require Large Banks to Maintain Long-Term Debt to Improve Financial Stability and Resolution,” FDIC (August 29, 2023),
13: “Addendum to the Interagency Policy Statement on Funding and Liquidity Risk Management: Importance of Contingency Funding Plans,” FDIC (2023),
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November 30, 2023
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