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Insight: Washington delays big banks from writing wills before a collapse

FDIC Vice Chair Thomas Hoenig testifies before the House Financial Services Committee hearing on "Examining How the Dodd-Frank Act Could Res
FDIC Vice Chair Thomas Hoenig testifies before the House Financial Services Committee hearing on "Examining How the Dodd-Frank Act Could Res

By Douwe Miedema and Emily Stephenson

WASHINGTON (Reuters) - Almost six years after Lehman Brothers collapsed, U.S. regulators still haven't given Wall Street banks individual feedback on how to improve so-called "living wills" that detail how to go bankrupt without spending taxpayer dollars or causing a market panic.

The banks have already had to submit two versions of the documents, neither of which were up to the standards of the Federal Deposit Insurance Corp and the Federal Reserve. With the next draft of the documents due in July, banks say they can do little to improve the plans if there are no detailed instructions from the government, sources familiar with the process say.

Some regulators say that the plans submitted so far by the banks wouldn't provide much of a roadmap if a new crisis were to threaten a large bank today.

"I don't think they'd function very well at all," FDIC Vice Chairman Thomas Hoenig told Reuters last week. "What's different today than in 2008? ... We still have major exposures from a systemic consequence point of view, and if I were to say otherwise I wouldn't be doing my duty."

Banks may not hear back from the government in time for the July deadline. Regulators haven't decided whether they will give feedback by that time, though they hope to get something to banks "soon," said Arthur Murton, the FDIC official who heads the living wills process.

"It's all moving in the right direction," Murton told Reuters in an interview. "A year from now we'll be even better positioned."

The 2010 Dodd-Frank law requires banks with more than $50 billion of assets, including JPMorgan Chase & Co and Goldman Sachs Group Inc , to submit annual living wills that describe how they could be unwound in a bankruptcy process.

Under the law, regulators could eventually tell banks to shrink or spin off parts of their business if they are not convinced the living wills would do their job. However, they won't likely give such orders until after they have advised the banks individually about shortcomings in the living wills.

Regulators said the first round of living wills in 2012 was poorly organized and vague on critical information, such as how global operations under the purview of international regulators would be treated. After issuing broad guidelines on how to improve the documents, the second round, filed in October 2013, was still deemed insufficient.

Banks will struggle to hand in improved living wills by the July deadline because the regulators haven't agreed on how to give them consistent, tailored feedback, people close to the process said.

"What do you say to a client having to do (the next round)?" said a former senior official at the FDIC. "Why should you go make huge commitments ... when you don't know what the regulators think works and doesn't work?"

Regulators could still issue broad guidance to the industry, like they did last year, or extend the July deadline.

EXPECTATION MISMATCHES

Each living will has thousands of pages, including such mundane data as where to reach key staff if the bank goes under, how to keep computer systems running, and how to communicate with employees.

It can also contain sections on whether to pay retention packages, how to produce financial reports, and how to unwind legal entities in the United States and international jurisdictions.

Much of the work on the living wills falls on a new task force within the FDIC - the Office of Complex Financial Institutions (OCFI) - led by Murton, a veteran at the regulator.

The FDIC oversaw the closure of hundreds of banks during the financial crisis. But it has never had to deal with giant institutions such as Bank of America or Citigroup , which often have thousands of legal units all over the world, and whose books are full of highly complex financial instruments.

"In the fall of 2010 we all looked at each other and said ... now we've bought the farm, we have this responsibility in case anything fails, we better be able to do it," the former FDIC official said. "We came up with some very quick, perhaps a little bit dirty, approaches."

Dodd-Frank also charged the OCFI with crafting a plan for winding down giant, failed banks that can't go through bankruptcy, even though many critics of the 2008 bailouts would prefer failed banks to go through bankruptcy court, which is where the living wills come in.

Many long-time employees balked at the thought of joining the OCFI, and a subsequent inflow of former bankers caused a culture clash at the FDIC, a large bureaucracy which has had some trouble adapting to the new task, according to Terry Rouch, who worked at the unit in 2011.

"If you have a long-term government employee, they may not be as well suited for a start-up organization," said Rouch.

A report by the agency's Office of Inspector General in November last year cited "some initial skills and expectation mismatches" contributing to a 20 percent staff turnover rate in 2012. Many current OCFI staffers have come from banks, including some from institutions such as Washington Mutual and IndyMac Bank that collapsed, according to a search on LinkedIn.

The watchdog report also said the OCFI wasn't sufficiently embedded in the organization, and that it had to stop funding two information systems it had invested $6.2 million in after it found out they weren't fit for the purpose. Of the OCFI's 10 management positions listed on its website, four are currently vacant.

The report also found that the office had made considerable progress on its bank resolution work since its creation in the Dodd-Frank law.

FDIC Chairman Martin Gruenberg, who requested the report, said in a formal response that he agreed with its conclusions and had already made changes to address some of them.

TWO AGENCIES

Much of regulators' criticism of the living wills thus far centers around banks' loose grip on their own data and information systems across a vast number of global subsidiaries.

"Something as basic as just mapping out your organization and seeing how those business lines match up, align with your legal entities, I mean some of the institutions had never done that," said a second former FDIC official, who is familiar with the living wills process.

Even so, the Fed and the FDIC themselves have found it hard to agree on how to communicate with banks about the living wills, given their different legal mandates, this person said.

That is because the Fed, which regularly supervises the largest banks, is primarily concerned with preventing firms from approaching the brink of failure, while the FDIC is responsible for what to do once a bank is deemed unsalvageable.

"That creates, by design, a tension," the second person said. "Part of the feedback issue no doubt arises because the two agencies have those two various responsibilities."

The Fed declined to comment.

"It's a new exercise for all of us," Murton said. "It's complicated, and we're working cooperatively with the Fed."

Bankers say having two regulators on the job complicates things. Conference calls frequently must be scheduled with representatives from both agencies, said one bank lawyer. In one case, the lawyer said, regulators spent eight weeks on one question before responding that they could not answer it.

Still, Murton - while acknowledging that more progress is needed - thinks his agency can cope with the task of a big bankruptcy. "We are better positioned than we were in 2008 to deal with this," Murton said.

(Reporting by Douwe Miedema and Emily Stephenson; additional reporting by Peter Rudegeair in New York; editing by Karey Van Hall and John Pickering)

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