Banking Regulator Played Advocate Over Enforcer

He also reduced consumer protections. The other agencies that regulate banks review corporate health and compliance with consumer laws separately, which consumer advocates say helps ensure that each gets proper scrutiny from specialists. Gilleran merged the consumer exam into the financial exam.

Gilleran did not respond to multiple requests to be interviewed for this article. But at the time he headed the agency, he defended the consolidation of the exams, saying thrifts would be required to conduct "self-evaluations of their compliance with consumer laws."

Then-Rep. John J. LaFalce (D-N.Y.), who at the time was the ranking Democrat on the House Financial Services Committee, wrote in a letter to Gilleran that this was "a complete abrogation of the mandate your agency has been given by Congress."

The consumer exam had in part monitored whether thrifts were complying with the law by providing quality loans in lower-income communities. During Gilleran's four-year tenure, OTS cited only one institution for failing to meet that obligation, compared with 12 citations in the previous four years.

John Taylor, chief executive of the National Community Reinvestment Coalition, and other advocates say better enforcement of consumer protections, such as rules against predatory lending, could have kept thrifts healthy because consumer complaints are an early warning of unsustainable business practices.

A Surge in High-Risk Loans

For thrifts regulated by OTS, the option ARM was the rocket fuel of the mortgage boom, the product most responsible for driving profits to record heights and for burning lenders badly on the way back down. Yet even after other bank regulators urged higher lending standards for these mortgages, OTS was reluctant to insist on it.

Simeon Ferguson, an 85-year-old Brooklyn resident with dementia, according to his attorney, signed up in February 2006 for an option ARM. The monthly cost was $2,400, but the terms of the loan from IndyMac Bancorp, a major thrift based in Pasadena, Calif., allowed Ferguson to pay less than that each month, the way people can with a credit card.

Many of the loans made by IndyMac and other thrifts were extended to borrowers without ensuring they could afford their full monthly payments. Ferguson, who lived on a fixed monthly income of $1,100, was one such borrower, according to a pending lawsuit filed on his behalf in federal court. The suit alleges that IndyMac never checked on his income or assets.

In 2006, at the peak of the boom, lenders made $255 billion in option ARMs, according to Inside Mortgage Finance, a trade publication. Most option ARMs were originated by OTS-regulated banks.

Concerns about the product were first raised in late 2005 by another federal regulator, the Office of the Comptroller of the Currency. The agency pushed other regulators to issue a joint proposal that lenders should make sure borrowers could afford their full monthly payments. "Too many consumers have been attracted to products by the seductive prospect of low minimum payments that delay the day of reckoning," Comptroller of the Currency John C. Dugan said in a speech advocating the proposal.

OTS was hesitant to sign on, though it eventually did. Reich, the new director of OTS, warned against excessive intervention. He cautioned that the government should not interfere with lending by thrifts "who have demonstrated that they have the know-how to manage these products through all kinds of economic cycles." Reich, through a spokesman, declined to be interviewed for this article.

The lending industry seconded Reich's concerns at the time, arguing that the government was needlessly depriving families of a chance at homeownership. IndyMac argued in a letter to regulators that in evaluating loan applications it was not fair to rule out the possibility that a prospective borrower's income might increase. "Lenders risk denying home ownership to qualified borrowers," chief risk officer Ruthann Melbourne wrote.