Penn Square National Bank, which looked as if it were getting better as recently as last September, went on a lending spree to oil and gas drillers during the last nine months of its life that led to its failure July 5, the comptroller of the currency testified yesterday.
C.T. Conover told a special meeting of the House Banking Committee that in early 1980 his office had identified the Oklahoma City bank as one in difficulty. After management promised, but failed, to take corrective steps, the comptroller's office issued a special order to the bank in September 1980 requiring it to slow its growth, improve its loan-making procedures, beef up its capital and get rid of its problem loans.
The bank, its officers and directors ignored the order for several months but, after increased pressure from the bank regulatory agency, a special supervisory examination concluded in late October 1981 revealed modest improvement, Conover said.
By the time the comptroller returned for another examination in late April, whatever improvement the bank made had been lost and then some. Conover said Penn Square made $600 million to $800 million of loans (many of them of poor quality and most of them eventually sold to other banks).
"As late as January 1982, we believed the outlook to be favorable and that all substantive areas of concern were being addressed and corrected," Conover said. He said examiners expected to find an improved bank when they began what proved to be their last examination of Penn Square. Instead, they found a bank on the brink of insolvency.
Nevertheless, according to Conover and Federal Deposit Insurance Corp. Chairman William Isaac, a more orderly shutdown of Penn Square might have been arranged had not word of the bank's difficulties leaked out and depositors made a run on the bank.
On Saturday, July 3, when only the bank's drive-in window was open, the bank ran out of cash and issued $1.8 million in cashiers' checks to depositors. Isaac and Conover said it became impossible to keep the bank open after that.
"In brief, the story of Penn Square Bank is one of rapid and uncontrolled growth centered principally in poor-quality loans," Conover told the committee. "As is typical of banks with asset problems, Penn Square suffered from a variety of related ills, including, in this case, insufficient capital and liquidity," the ability to convert assets to cash.
Although Conover said the bank showed some improvement in the September 1981 examination, he testified that, for most of the 2 1/2 years his office had the bank under special supervision, bank officers and directors ignored both the advice and, eventually, the legal instructions from the comptroller's office. Pressed as to why the agency did not remove the bank's officers, Conover said his office believes the only time a bank official can be removed by federal regulators is in the case of "personal dishonesty."
Although Penn Square violated numerous banking laws, all the violations were civil, and until the final months were mainly technical.
But Isaac, whose agency took over the bank after Conover closed it, agreed with Banking Committee Chairman Fernand St Germain (D-R.I.) that banking laws give regulators the authority to remove bank officers if they ignore requirements of cease-and-desist orders of the type issued by the comptroller in September 1980.
Conover and Isaac said that the bank was replete with insider transactions and that bank officers and officials regularly took part in deals the bank was financing. Furthermore, they said, many of the documents that backed up the loans, such as engineering estimates of oil and gas reserves, often were fabricated or hyped. In addition, Penn Square's loan review department was not permitted to examine energy loans, which made up about 80 percent of the bank's portfolio. Penn Square sold more than $2 billion of the loans it made to other institutions such as Continental Illinois National and Chase Manhattan banks.
Conover said he would "rather not discuss any potential violations of the law" in the hearing because of potential indictments. The FBI is investigating Penn Square, and both the FDIC and the comptroller's office are cooperating.
Most committee members echoed St Germain's skepticism about how a bank could be under special watch by federal regulators for 2 1/2 years, yet continue on the same course that led to its demise. Conover said that his office does not have the power to run banks, only to regulate them. So long as the nation wants a private, risk-taking financial system, failures will occur, he said.
There were about $190 million of deposits uninsured by the FDIC, including $900,000 of a $1 million deposit placed there by the House of Representative's own credit union. Under current estimates, those depositors can expect to lose about 20 percent of their uninsured accounts. Most of those deposits were attracted to Penn Square by money brokers and were attractive to depositors because the interest offered was higher than could be obtained at larger, better-known banks.
Both Conover and Isaac questioned why credit unions such as the House's placed deposits in a small, faraway bank they knew little about. "On the surface, it seems the credit union, a number of savings and loan associations and some small banks ended up making deposits in this particular bank without seemingly doing a good job of doing their homework."
"If one can identify a silver lining behind the dark cloud of the Penn Square affair, we should expect that all financial institutions will be more prudent in the future," Isaac said.
Both Conover and Isaac said the Penn Square affair was an aberration, that the bank violated nearly every element of good banking practice--from insider loans and failing to diversify their loans out of oil and gas, to ignoring regulatory advisories. Despite the severe recession, only 268 banks are on the "problem" list, Isaac said.
"With nearly 15,000 banks in the country, we will occasionally encounter situations like Penn Square," he added. "But they will be few and far between."