Regulators did little to halt reckless practices at WaMu

Federal banking examiners found serious problems at Washington Mutual Bank at least five years before its 2008 collapse, but their supervisors showed little concern, according to results of a lengthy Senate investigation released Thursday.

The lack of action, exacerbated by a turf battle between agencies, allowed the bank’s shoddy lending practices and risky bets on subprime mortgages to continue until just months before its failure.

During those five years, examiners constantly warned of “less than satisfactory” loan underwriting, the “horrible performance” of its subprime-backed mortgage securities and the failure of WaMu executives and federal regulatory supervisors to do much about it.

One examiner said he was derided by colleagues as “the housing ‘bubble’ boy” for his “gloom and doom” predictions for some risky loans, and another complained that critics of subprime loans were called “chicken little.”


The findings from an 18-month probe by the Senate’s Permanent Subcommittee on Investigations are a stinging indictment of federal banking regulators in the years leading up to the financial crisis. The report came two days after WaMu executives were slammed by the panel for knowingly taking risks that sank the bank.

The subcommittee will release more details Friday, when it is expected to grill current and former officials at the Office of Thrift Supervision and the Federal Deposit Insurance Corp., the two agencies that oversaw Washington Mutual before it became the largest bank failure in U.S. history.

The bipartisan findings echo criticisms raised in a joint report, also released Thursday, by the inspectors general of the OTS and FDIC. The OTS gets the most heat because it was WaMu’s primary regulator. The agency, which supervises savings and loans, also has been criticized for its lax oversight of IndyMac Bank, a Pasadena lender that failed in 2008.

The investigations provide more ammunition for critics of the OTS, which would be eliminated under the financial regulatory overhaul legislation moving through Congress.

But the FDIC, which was a secondary regulator, also was criticized by the inspectors general and the Senate subcommittee for not stepping in more aggressively to deal with WaMu. The agency ultimately forced the hand of OTS by independently downgrading WaMu’s regulatory rating shortly before its collapse, a move that was preceded by sharp e-mail exchanges between officials at the two agencies.

Neither the report nor the Senate panel blames WaMu’s failure on regulators. But they could have done more to limit the bank’s risky practices, said Sen. Carl Levin (D-Mich.), chairman of the subcommittee.

And regulators failed to see the broader threat of WaMu’s practices on the financial system, frequently satisfied that the bank was reducing its own risk of losses by selling billions of dollars of securities backed by subprime mortgages.

“Washington Mutual’s collapse is a tale of greed and mismanagement, but it is also a case history of ineffective bank regulators who saw years of unsafe and unsound banking practices but failed to stop them,” Levin said.


“Instead of stopping the abuses they saw, OTS regulators stood idly by while WaMu executives loaded up on risk and churned out billions of dollars in toxic mortgages that poisoned not only the bank but also our financial system,” he said.

OTS spokesman William Ruberry said the agency had adopted the recommendation of the inspectors general to improve the system for tracking the status of recommendations by bank examiners. He also said that WaMu’s failure “caused no loss to the deposit insurance fund and no federal assistance borne by taxpayers.”

The agency had not seen the subcommittee’s findings and could not comment, he said. The Senate investigation, Levin said, found that officials at OTS, which is funded by assessments paid by the savings and loans it oversees, had a cozy relationship with executives at WaMu, the largest bank it supervised.

Former OTS Director John Reich, who served from 2005 to 2009, referred to WaMu Chief Executive Kerry Killinger as “my largest constituent” in a 2007 e-mail.


That attitude pervaded the upper levels of the agency, Levin said, as supervisors ignored the criticisms from bank examiners about WaMu’s practices.

In a 2004 report, OTS said the bank’s standards for single-family home mortgages “has been an ongoing examination issue for several years.” An internal OTS e-mail in 2005 warned that WaMu’s mortgage-backed securities “have a horrible performance,” and a report that same year said the problems “if left unchecked, could erode the credit quality of the portfolio.”

The warnings got more dire from 2006 to 2008 as examiners criticized WaMu’s practice of not requiring proof of income for loans. But one examiner called WaMu’s office that dealt with regulators “a joke” and another complained in 2005 that it was hard to do “much more than constantly nagging” WaMu to make improvements because the bank hadn’t yet suffered any losses from the practices.

The probe found that WaMu executives were able to get OTS officials to water down some criticisms. The agency also decided in 2006 not to force WaMu or other banks to comply with tougher regulatory guidelines on subprime and other “non-traditional” mortgages.


OTS’ initial response was that “they view the guidance as flexible,” a 2006 WaMu memo said.