Report highlights critical gaps in the system
The Federal Housing Finance Agency (FHFA) has intensified its scrutiny of the Federal Home Loan Bank (FHLBank) System’s lending and credit risk management practices after four bank members collapsed in the spring of 2023. These failures, which occurred after the banks relied heavily on FHLBank funding, prompted the FHFA to evaluate the adequacy of the FHLBanks’ credit risk assessments and the agency’s response to identified deficiencies.
An evaluation conducted by the FHFA’s Office of Inspector General (OIG) reviewed supervisory activities performed at four FHLBanks between January 2021 and September 2023. The OIG found that while FHFA examiners generally expressed confidence in the FHLBanks’ credit risk management practices during the 2021 and 2022 examination cycles, their focus shifted in 2023 due to the exposure of significant weaknesses following the bank failures.
Among the shortcomings identified were an over-reliance on collateral without sufficient attention to the creditworthiness of members, inadequacies in advances terms and limits, and flaws in the credit risk assessments, ratings, and modeling employed by some FHLBanks. In September 2023, the FHFA responded by directly communicating its supervisory expectations to each FHLBank, with plans to issue supplemental guidance by the end of fiscal year 2024.
Significant gaps found
The OIG’s report highlighted several critical gaps in the FHFA’s current supervisory framework. Notably, the agency has yet to issue formal guidance on how FHLBanks should manage collateral subordination practices to facilitate member banks’ access to the Federal Reserve’s discount window. Additionally, the FHFA lacks written protocols to guide coordination with other regulatory bodies during bank failures, and the agency’s examination guidance has not been updated since 2014—well before the recent failures exposed new risks.
The report also criticized the Division of Bank Regulation (DBR), responsible for overseeing FHLBanks, for failing to comply with examination workpaper standards in certain instances. The OIG identified cases where examiners provided insufficient documentation or unsupported conclusions in their assessments, particularly in areas directly related to the 2023 bank failures. These lapses, though not widespread enough to be considered a formal evaluation finding, were noted for DBR’s consideration and response.
To address these issues, the OIG made four key recommendations. These include issuing guidance on collateral subordination, developing protocols for handling member distress and coordinating with regulators, updating examination guidance to reflect lessons learned from the 2023 bank failures, and ensuring comprehensive examination coverage of all relevant topics.
The FHFA has agreed to implement these recommendations.
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