Why regulators’ confidential bank ratings should not be public information

failure Three multi-billion dollar local banks This situation in the first half of 2023 has understandably caused great concern and debate in Congress and the public.

These failures are due to banks' management and directors engaging in unsafe and unsound banking practices. State and federal banking regulators, while having all necessary tools at their disposal, did not adequately supervise these banks in order to immediately cease or cease risky operations. .

But some of the criticisms of regulators are deeply offensive. Some argue that the only sure solution to this problem is “increasing depositor discipline,” which is currently classified.camel(capital adequacy, asset quality, management, earnings, liquidity, interest rate sensitivity) Ratings issued by banking regulators.

of CAMEL evaluation system (the predecessor to the current CAMELS system, which added interest rate sensitivity) was developed by the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, and the Federal Reserve System when I was Chairman of the Federal Deposit Insurance Corporation. I did.

The purpose of the CAMEL system was to provide a uniform way for authorities to express their views on the situation of each bank based on the results of regulatory examinations. The quality of each element of the rating system was rated from 1 to 5 (5 being the worst), and banks were also given a composite rating on the same scale.

Banks rated 1 have no major issues of concern to regulators, banks rated 2 are considered good, banks rated 3 have issues that require attention, and banks rated 4 have issues that require immediate attention. There are serious issues that need to be addressed, and 5-rated banks do not. -Rated banks have an approximately 50/50 chance of failure and require immediate remediation.

The regulator will provide banks and their directors with the bank's CAMELS rating, answer any questions they may have, and discuss the improvement efforts expected of the bank. This argument is typically very strong for banks rated 4 or 5. In the early years of the system in the 1980s, Approximately 3,000 banks and savings banks go bankrupt It also added thousands of banks and thrifts rated 3 or lower on the regulator's problem banks list.

Regulators knew that making the ratings public would immediately impose significant market discipline on banks rated 3, 4, and 5. However, after much discussion, this idea was strongly rejected.

As for the evaluation of CAMELS, opinion The views of banking regulators are not always correct. Determining ratings involves considerable complexity and judgment; If the information is made public, it may cause damage to the bank.If this happens, there will be a lot of pressure on the examiner, and there is a high possibility that they will rate the bank higher than they would intuitively believe. This is especially true for large banks. Moreover, publishing the ratings of all banks could lead to a devastating loss of confidence and widespread public panic.

Rather, the solution to this conundrum has been, and continues to be, public disclosure. fact We will disclose the bank that led to the examiner's rating (including the existence of any enforcement action), but we will not disclose the rating itself. Additionally, in order to maintain the privacy of the bank's customers, we have decided not to disclose any identifying information about them.

Regulators rightly believe that given time, they can help troubled banks turn around. Publishing CAMELS ratings would significantly reduce the amount of time that low-rated banks have to take corrective action, significantly increasing failure rates. Most banks resolve the issue after discussing the ratings and do not go bankrupt. In fact, about half of the five-rated banks will eventually recover.

In summary, the CAMELS rating system has significantly improved bank supervision, bringing greater uniformity and objectivity to the process. Those who try to publish ratings are simply wrong. It would lead to a significant increase in depositor stress and avoidable panic, an increase in bank failures, a significant increase in costs to the FDIC and the banking industry, and a reduction in the competitiveness of the banking system.

You got it right when you developed the system, but don't change course now.

William M. Isaac, former chairman of the FDIC and Fifth Third Bancorp, is chairman of Secura/Isaac Group, a consulting firm to financial institutions around the world. The views expressed are his alone and do not necessarily reflect the views of any company he is affiliated with or has been associated with.