Regulators: Minn. bank woes not our fault

State and federal regulators delivered a grim assessment of the state's banking industry in hearings Tuesday at the State Capitol, while vigorously denying assertions that more regulation would have prevented the loan losses now cascading through the state's financial institutions.

Deputy Commerce Commissioner Kevin Murphy, the state's top banking cop, told lawmakers that the state's "watch list" of problem banks at greater risk of failure has grown to 71 institutions, up from 50 at the start of the year. There also are 21 credit unions on the state watch list. Together, these institutions account for about one-fifth of all banks and credit unions in the state.

About half of the banks on the watch list are in the Twin Cities metro area, Murphy added. "I would venture to guess that it's going to be a bit more bumpy for awhile," he said.

Linda Scheid, chair of the Senate Commerce Committee, called the hearing this summer after a Star Tribune report explored bank and credit union lending practices and raised questions about whether state regulators had been vigilant enough in preventing excessive risk-taking. Scheid, who said in July that she was "dismayed to learn" from the series that Minnesota had one of the lowest ratios of bank examiners to banks in the nation, wanted the hearing to examine whether the state Commerce Department had enough regulatory muscle to effectively police this state's 430 state-chartered banks and credit unions.

At Tuesday's hearing, however, lawmakers asked very few questions and mostly sat in stony silence during the testimony; more than a few left before the hearing was complete.

Murphy assured the committee members that he had enough examiners -- 31 -- to do the job. "It would be nice to have more staff, but we do believe our current level is adequate. Having a little bit less staff than you would like will force you to prioritize," Murphy said. "We focus our attention on the most important matters."

James LaPierre, regional director for the Federal Deposit Insurance Corp., which insures bank deposits, also gave a sobering outlook, noting that losses on problem loans continue to accelerate faster than banks are putting aside money to cover them. He said Minnesota banks have just 61 cents of cash reserves on hand to cover every dollar in problem loans, down from 81 cents a year ago. Regulators recommend that banks keep at least as much cash in reserves as they have problem loans.

However, the bank and credit union executives who testified Tuesday were reluctant to blame either the industry or the regulators.

"The quake was on Wall Street, the tsunami wiped out or seriously damaged unsuspecting smaller financial providers all over the country," said Bill Raker, president and CEO of U.S. Federal Credit Union in Burnsville. "Regulators and examiners in Minnesota didn't -- couldn't have -- seen the devastating collapse deep in the intricate, un-regulated workings of Wall Street."

Murphy told lawmakers that he expects some troubled banks to solve their problems. "It's not realistic to expect absolutely no failures, but we want to have minimal failures," Murphy said.

LaPierre also defended regulators' actions, noting that it would have been difficult for bank regulators to prepare for a crisis while the economy was still strong and bank balance sheets looked secure. "It's very, very difficult in a good economy for a regulator to put on the brakes on a bank that's having success," LaPierre said.

Though the hearing lasted nearly four hours, many questions were left unanswered. Left unexplained, for instance, is how so many Minnesota banks amassed such a high percentage of bad commercial real estate loans. Minnesota ranks fifth nationally, with 12 percent of its banks carrying high levels of bad real estate loans, according to a recent analysis by Foresight Analytics, a financial research firm in California.

Some regulatory experts have argued that strict limits on real estate lending could have protected banks and credit unions from such losses and prevented at least some of the 98 bank failures that have occurred nationwide since the beginning of the year.

Joe Witt, president of the Minnesota Bankers Association, lashed out at the media for not reporting the fact that a higher percentage of Minnesota banks are making money than the national average. Witt also argued that the term "risky lending" has been overused and poorly explained; many loans went sour, he said, because of the economy and not because of overaggressive lending practices.

"It's become some sort of accepted fact that all banks in this state are into risky lending," Witt said. "But just because a loan went bad doesn't make it a risky loan."