WFC Wells Fargo and Company

By Ryan Tracy 

WASHINGTON -- Should bank examiners work every day inside the offices of banks they oversee, or not?

Two federal banking regulators have opposite answers, showing how 10 years after the 2008 bailouts, regulators are still trying to figure out the best way to stop bankers at Wells Fargo & Co. and other firms from causing trouble.

The Federal Reserve Bank of New York recently finished moving examiners -- who act like a tripwire to catch Wall Street misdeeds -- to its headquarters on Maiden Lane in downtown Manhattan. They previously worked inside big banks' offices, but the agency changed course after criticism that examiners had grown too close to the bankers they oversee, a phenomenon known as "regulatory capture."

The Office of the Comptroller of the Currency, another big-bank regulator, planned to move examiners in-house, too, before the election of President Donald Trump. Now Mr. Trump's OCC chief, former bank CEO Joseph Otting, wants examiners to remain ensconced in banks' offices.

Bank examiners comb records and interrogate executives. If they see a problem, they can order bankers to fix it and sanction banks that don't listen. When examiners succeed at preventing transgressions, hardly anyone notices. When they fail, consumers suffer.

In 2010, OCC examiners working in Wells Fargo's San Francisco headquarters, known as resident examiners, grew worried about the firm's high-pressure sales culture. Eight products per customer was the bank's goal, because "eight" rhymed with "great," its then-chief executive said.

The examiners flagged their concerns in 2010: "We are aware of no assessment of the risks and controls associated with the corporate goal of cross selling eight products per household," they wrote in an internal assessment.

Around six years later, the bank admitted to opening as many as 3.5 million fake accounts. An OCC ombudsman later said the resident examiners didn't adequately follow up on their 2010 assessment or subsequent warning signs of the fraud.

(The OCC did eventually force Wells Fargo to address the problems and fined it $35 million in 2016.)

If those OCC examiners worked at the New York Fed today, they would have desks at a regulatory office, instead of inside a bank.

It's impossible to say whether changing examiners' working location would have changed the outcome, but critics say "resident examiner" programs breed complacency. Wells Fargo's sales-incentive programs were more aggressive than those of industry peers. If the OCC examiners had been comparing notes with colleagues assigned to other banks, might they have pushed Wells Fargo earlier to clean up its act?

If a bank examiner sees "the same thing day in and day out, you get too trusting that that routine is OK. It's easy to get caught in that," said Douglas Roeder, a managing director at PWC, a consultancy, and a former OCC senior deputy comptroller in charge of overseeing large banks.

A New York Fed spokeswoman said bringing supervisors back to headquarters allows them to "more readily interact with colleagues from other teams and compare and contrast firm practices, processes and risks." She added that the regulator will retain some workspace inside banks, where examiners can "continue to have regular and consistent interactions" with bankers.

The Federal Reserve Bank of San Francisco, the Fed arm that shares oversight of Wells Fargo, is also moving big-bank examiners into regulatory offices, a spokesman said. Fed offices in most other cities are taking the same approach.

Thomas Curry, who ran the OCC during the Obama administration, wanted to cut down on resident examiners to "avoid the perception of regulatory capture," he said in a 2017 interview before wrapping up his five-year tenure.

Mr. Curry's team intended to move the examiners out of the banks, but never did. Some OCC employees disagreed with the idea because they didn't believe the OCC was "captured" by banks, according to former officials. The change was also delayed due to union negotiations and the cost of leasing new offices at a time when the OCC was hiring many additional examiners, officials said. Banks pick up the tab for office space for resident examiners.

Mr. Otting, the OCC's new leader, is sympathetic to a different school of thought, which views the location of an examiner's desk as a minor concern compared to other factors, such as training, priorities and resources.

The OCC chief recalled that when he was CEO of OneWest Bank in California, examiners worked on a separate floor, "kind of locked down" away from bank staff. Mr. Otting valued the fact that if he had a question for his examiner, or vice versa, "I could just go down the elevator," he told reporters in December.

"In my mind the best solution would leave the regulators there," inside banks, he said, while ensuring that examiners don't work at one bank for too long and that they regularly talk with examiners at other banks. In addition, both the OCC and the Fed have beefed up the number of staff tasked with comparing practices at different banks and established Washington-based committees to review examiners' major decisions.

At a big bank, examiners are outgunned no matter where they sit. Wells Fargo has more than 260,000 employees. Overseeing them on any given day are about 50 OCC examiners and examiners from other regulators.

During the years when Wells Fargo's employees were opening phony accounts, OCC examiners were auditing foreclosure practices across a huge volume of mortgages, according to a person familiar with the matter.

Write to Ryan Tracy at ryan.tracy@wsj.com

(END) Dow Jones Newswires

March 25, 2018 08:14 ET (12:14 GMT)

Copyright (c) 2018 Dow Jones & Company, Inc.