After the financial crisis, regulators vowed to overhaul supervision of the nation?s largest banks.
As part of that effort, the Federal Reserve Bank of New York in mid-2011 replaced virtually all of its roughly 40 examiners at JPMorgan Chase to bolster the team?s expertise and prevent regulators from forming cozy ties with executives, according to several current and former government officials who spoke on the condition of anonymity.
But those changes left the New York Fed?s front-line examiners without deep knowledge of JPMorgan?s operations for a brief yet critical time, said those people, who spoke on the condition of anonymity because there is a federal investigation of the bank.
Forced to play catch-up, the examiners struggled to understand the inner workings of a powerful investment unit, those officials said. At first, the examiners sought basic information about the group, including the name of the unit?s core trading portfolio.
By the time they got up to speed, it was too late. In May, JPMorgan disclosed a multibillion-dollar trading loss in the investment unit. They ?couldn?t ask tough questions,? said a former official who was based at JPMorgan. The situation highlights the fundamental challenge of policing big banks, even after the crisis.
As regulators added to their ranks and aimed to increase the sophistication of their teams, the transition was not always smooth. The staff turnover at the New York Fed happened over several months, and regulators made a concerted effort to retain knowledge of the bank?s activities, according to other people close to the New York Fed who were not authorised to speak publicly on the matter.
Even so, the current and former officials said the Fed examiners faced a daunting task, given that the bank has more than $2 trillion in assets. Faced with overseeing large banks like JPMorgan, regulators cannot possibly comb through every loan document or trade. Instead, they rely primarily on a bank?s own analysis of its risk, a broad portrait that can mask problems.
?They aren?t examiners as much as they are overseers, forced to peer over the banks? shoulders,? Bart Dzivi, who served as special counsel to the Federal Crisis Inquiry Commission, said in reference to the general state of large bank supervision.
The New York Fed?s shake-up only aggravated a continuing struggle between JPMorgan executives and regulators from the Office of the Comptroller of the Currency, which supervises banks. For years, the agency, with dozens of its own examiners at JPMorgan, worried that the bank had been miscalculating how much money it could lose in extreme situations, according to the current and former officials.
Examiners challenged the executives who stonewalled, and the conflict left agency supervisors with an incomplete picture of the bank?s risk. At one point in early 2012, JPMorgan briefly stopped providing examiners with an important risk estimate for the chief investment office, the group at the centre of the recent trading losses, the current and former officials said. Executives told examiners not to worry. For their part, regulators say it is not their job to micromanage or remove risk altogether. Their goal is to protect the financial system broadly.
In a statement, Comptroller of the Currency Thomas Curry said his agency was ?reviewing the risk management practices at JPMorgan Chase, following the losses announced in May.? The review, he said, referring to the chief investment office, ?includes risk management policies and controls that govern both CIO and the rest of the bank. That information will be used to determine what supervisory actions and changes are appropriate.?