In the Shadow of Litigation: Understanding Bank Supervision

Abstract

When three banks failed in Spring 2023, bank regulators were roundly criticized for failing to adequately supervise the now-insolvent institutions. Bank supervision-contentiously defined as activities addressing firm-specific risks that traditional regulations cannot-is of such importance to banking that, in addition to condemning these banks' executives, Congress demanded to know how regulators allowed such mismanagement to occur. This assessment comes as scholars, practitioners, and regulators are investigating the nature of supervision and how it must comport with constitutional and administrative due process, if at all. 
This article argues that "bank supervision" is simply an umbrella term for the application of activities undertaken by agency officials across the government to banks. Rather than being sui generis, supervision's perceived uniqueness stems from regulators' broad statutory authorities that can be wielded in litigation and the capacity to engage in frequent and deep examinations, resulting in a "supervisory dance," whereby banks acquiesce to supervisors' recommendations as doing otherwise may result in enforcement actions that banks will likely lose-and that can be costlier than if recommendations are simply followed. Supervision is what it is because it occurs in the shadow of litigation. 
This recognition leads to two ultimate conclusions. First, supervisors must comply with the same due process requirements as other regulators, which they do. Second, adoption of the sui generis view poses risks to the banking system's stability, especially if supervisors simply expect acquiescence-an error partially responsible for the 2023 bank failures.

Keywords: banking, supervision