• Acting Comptroller of the Currency Michael Hsu presents a framework for scrutinizing banks viewed as “too big to manage.”
• Hsu describes a four-step escalation framework for supervisory issues, with a “credible threat of restrictions and divestitures.”
• Banks should take steps to ensure management and governance frameworks are sufficiently robust to prevent supervisory issues and avoid the threat of escalating measures.
• “Too big to manage” reviews may become a risk factor in bank merger approval process.

Acting Comptroller’s Speech Signals a Shift Towards Size-Based Scrutiny

Traditionally, the Office of the Comptroller of the Currency (OCC) has taken the position that size alone is not an indicator of inherent risk for banks. Banks with very large portfolios of simple assets and activities do not necessarily face greater risks than smaller ones, while smaller complex and interconnected banks may pose a greater risk if management and governance are weak and fundamental activities like lending are reckless. Remember Penn Square?[1]

However, in a speech on January 17, Acting Comptroller of the Currency Michael Hsu gave a speech describing the “the limits of large bank manageability, or what some call the too-big-to-manage (TBTM) problem.”[2] Hsu argued, “Enterprises can become so big and complex that control failures, risk management breakdowns, and negative surprises occur too frequently—not because of weak management, but because of the sheer size and complexity of the organization. In short effective management is not infinitely scalable.”

While Hsu includes complexity in the overall concept, the rhetorical flourish and shift focuses much more on the sheer size of an enterprise.

The phrase “too big to manage” and the notion that a bank’s size can make it inherently too risky has been brought up in the past by advocacy groups and by members of Congress. Most recently, House Financial Services Committee Ranking Member Maxine Waters described Wells Fargo as TBTM in a statement and encouraged regulators to take actions beyond fines.[3] A statement she has repeated regarding Wells Fargo.[4]

Acting Comptroller Hsu’s speech detailed a four-step escalation framework to address supervisory issues at large banks, which is designed to “use the credible threat of restrictions and divestitures” to encourage banks to prove that they are manageable:

• Step 1: A bank receives a matter requiring attention (MRA) during the examination process. The bank has an opportunity to develop plans and take corrective actions. If corrective action is not taken or an examiner finds the action to be ineffective, escalation to step two occurs.
• Step 2: The OCC issues a public enforcement action, which may be paired with a fine. Hsu stated that a public enforcement action is typically “sufficient to motivate a bank to take the necessary actions to fully remediate its deficiencies.” The bank will be required to submit a remediation plan with milestones for regulatory approval. If those milestones are not met, escalation to step three occurs.
• Step 3: The OCC imposes a restriction on growth, business activities, or capital actions. Hsu stated that the rationale for growth restrictions could include: “repeat offenses, repeated delays in meeting established remediation milestones, or new violations of similar laws or regulations – i.e., what some might call ‘recidivist’ outcomes.”
• Step 4: “Simplification via divestiture,” or breaking up the bank. Hsu indicated that this would occur if deficiencies continued to persist, and that “evidence of the bank’s inability to manage itself would become overwhelming.”

While step four appears to introduce a new tool in the OCC’s supervisory arsenal, each of these steps have been used in the past on banks of all sizes to address recalcitrant issues and recidivism. Articulating step four publicly as a regular step in the escalating process of supervision and enforcement however raises the specter that the tool may be used more often in the future. While the megaphone is an agency head’s sharpest weapon, banks should take that threat seriously, in part because the standards for taking such action are largely left to supervisory judgment as are many determinations of what qualifies as safe and sound.

The industry will be watching closely when the agency first uses this supervisory bomb because it is unclear how that will unfold. Will banks be more likely to challenge those actions and resist signing the consent order that constitutes an enforcement action? Will examiners be quick to recommend and escalate their actions through the framework? What size should industry assume is just too big in the bank regulatory agency’s eyes?

Moreover, does such an action reflect a policy change that should be published for comment in the Federal Register in the way President Obama’s Comptroller Tom Curry did with heightened standards for large banks in 2014?[5]

Preparing for TBTM Reviews and Preventing Escalations

While industry watches for greater detail, prudent large banks should begin to prepare for questions that examiners may raise when issues suggest that banks are becoming TBTM in their eyes. Failure to prepare for a TBTM review could lead to escalation under the process outlined by Hsu. The third and fourth steps of escalation – growth restrictions or divesture – could have lasting material impact on a bank.

Hsu’s speech, however, described several actions banks can take to stand up to scrutiny during a TBTM review. He emphasized that “when a negative surprise occurs, large banks should presume that similar risks lay hidden beneath the surface elsewhere and that unseen root causes need to be uncovered and addressed.” Hsu encouraged banks to perform a “look across” to other units to demonstrate that they do not contain similar vulnerabilities.

Hsu also stressed the importance of proactively identifying and remediating weaknesses. He noted that well-managed banks tend to have “strong ‘self-identify/self-correct’ cultures.” Banks should take note and review procedures to ensure that their internal risk and control functions are taking steps to find and remediate weaknesses before a supervisory exam occurs.

Banks should also have governance processes and compliance procedures in place to prevent the escalation steps that Hsu laid out. Procedures could address how to address MRAs in a timely manner, and a clear delineation of responsibilities for which bank functions will manage remediation plan milestones in the case of an enforcement action.

TBTM reviews may also become a component of the review process for certain bank mergers. Hsu’s speech contained a section on “rushed integrations and diseconomies of scale” that can occur following a bank merger. He stressed the importance of systems integration, thoughtful processes, and sound governance to facilitate managing TBTM risks presented by a merger. Notably, on the same day that Hsu delivered this TBTM speech, the OCC approved the merger of Bank of the West, San Francisco, into BMO Harris Bank, National Association, Chicago, creating the 13^th largest commercial bank in the United States. The OCC’s merger approval decision letter did not discuss a TBTM review or a review of integration risk in detail.

Hsu’s description of how to be labeled TBTM is fundamentally to be a well-managed bank that functions in a safe and sound manner that complies with laws and regulations and treats customers fairly. That means a good offense is the best defense and that banks should actively test and review their management and governance frameworks, as well as systems and policies, for detecting and correcting deficiencies.

Put Patomak’s Banking Expertise to Work  

Patomak has deep experience in helping banks and other financial institutions identify and manage risks and respond to developments in banking regulation and supervision. Patomak can work with boards and management to assess their governance and internal risk and control functions proactively to ensure they exceed supervisory expectations and support their business objectives. Contact us to learn how Patomak can help you navigate these challenges and help you meet your business goals.

Links

• Remarks at Brookings: “Detecting, Preventing, and Addressing Too Big to Manage”
• Press Release: Acting Comptroller Discusses Management of Large Banks
• Press Release: OCC Announces Approval of Bank of the West – BMO Harris Bank, National Association Merger

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[1] In July 1982, Penn Square Bank failed. While relatively small, it was seen as key to the failure of other banks including the largest bank failure of its day Continental Illinois, the bank that gave birth to the phrase “too big to fail.”

[2] Michael Hsu. “Detecting, Preventing, and Addressing Too Big To Manage.” Remarks at Brookings. OCC. January 17, 2022.

[3] Statement by Ranking Member Maxine Waters. House Financial Services Committee. U.S. House of Representatives. July 13, 2023.

[4] Maxine Waters. Opening Statement. House Financial Services Committee. U.S. House of Representatives. March 12, 2019.

[5] “OCC Proposes Formal Guidelines for Its Heightened Expectations for Large Banks.” OCC. January 16, 2014.