U.S. banking authorities are calling on banks to play their part in easing the financial crisis by lending to viable borrowers, reining in their dividends and rethinking their compensation practices.

The U.S. Treasury, the Federal Deposit Insurance Corporation, and the Federal Reserve issued a joint statement on Wednesday, noting the actions they have taken to shore up the financial industry, and calling on banks that have been the beneficiaries of these efforts to lend responsibly.

“The recent policy actions are designed to help support responsible lending activities of banking organizations, enhance their ability to fund such lending, and enable banking organizations to better meet the credit needs of households and business. At this critical time, it is imperative that all banking organizations and their regulators work together to ensure that the needs of creditworthy borrowers are met,” they said.

“To support this objective, consistent with safety and soundness principles and existing supervisory standards, each individual banking organization needs to ensure the adequacy of its capital base, engage in appropriate loss mitigation strategies and foreclosure prevention, and reassess the incentive implications of its compensation policies,” they added.

The agencies said that they expect all banking organizations to fulfill their fundamental role in the economy as intermediaries of credit to businesses, consumers, and other creditworthy borrowers. “If underwriting standards tighten excessively or banking organizations retreat from making sound credit decisions, the current market conditions may be exacerbated, leading to slower growth and potential damage to the economy as well as the long-term interests and profitability of individual banking organizations,” they noted.

They also called on the banks, when setting dividend levels, to consider ongoing earnings capacity, the adequacy of loan loss provisions, and the overall effect that a dividend payout would have on the cost of funding, their capital position, and, consequently, their ability to serve the expected needs of creditworthy borrowers.

“Banking organizations should not maintain a level of cash dividends that is inconsistent with the organization’s capital position, that could weaken the organization’s overall financial health, or that could impair its ability to meet the needs of creditworthy borrowers,” they said, noting that supervisors will continue to review the dividend policies of individual banking organizations and will take action when dividend policies are found to be inconsistent with sound capital and lending policies.

The agencies also said that they expect banking organizations to work with existing borrowers to avoid preventable foreclosures, and to mitigate other potential mortgage-related losses.

Additionally, they stressed that “poorly-designed management compensation policies can create perverse incentives that can ultimately jeopardize the health of the banking organization.”

“Management compensation policies should be aligned with the long-term prudential interests of the institution, should provide appropriate incentives for safe and sound behavior, and should structure compensation to prevent short-term payments for transactions with long-term horizons,” they said. “Management compensation practices should balance the ongoing earnings capacity and financial resources of the banking organization, such as capital levels and reserves, with the need to retain and provide proper incentives for strong management. Further, it is important for banking organizations to have independent risk management and control functions.”

The agencies said they expect banking organizations to regularly review their management compensation policies to ensure they are consistent with the longer-run objectives of the organization and sound lending and risk management practices.

IE