Nyc B6 Gao Fdr- Interview With Federal Reserve- B S And R

Prepared by: Toni Gillich Date: 12/19/01 Job Code: 250045

Index: DOC Library: Goal 1 DOC Number: 335011

Interview with Federal Reserve—B,S, & R Reviewed by: Tom Conahan Review Date: January 4, 2002

Record of Interview Purpose

To speak with the lead analyst responsible for examinations of the Bank of New York to get an idea of any supervisory concerns that may have existed prior to September 11, 2001.

Contact Method

Visit

Contact Place

Board of Governors of the Federal Reserve System Martin Building 20th and C Streets NW, Washington, D.C.

Contact Date

December 18, 2001, 10:00am

Participants

Federal Reserve Heidi Richards, Assistant Director, Division of Banking Supervision and Regulation, 202.452.2598 Michael D. Accornero, Supervisory Financial Analyst, Division of Banking Supervision and Regulation, 202.452.5275 Adrienne T. Haden, CCP, Manager, UPS Risk and E-Banking, Division of Banking Supervision and Regulation, 202.452.2058 GAP Tom Conahan, Senior Analyst-FMCI, 202.512.4545 Jean Paul Reveyoso, Senior Analyst-FMCI, 202.512.9609 Toni Gillich, Analyst-FMCI, 202.512.3761

Comments/Remarks

The following was discussed as understood by GAO staff: The Federal Reserve (Fed) assigns a central-point-of-contact (CPC) to each large banking organization that it supervises. A dedicated team of 4

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Record of Interview

Index: DOC Library: Goal 1 DOC Number: 335011

Prepared by: Toni Gillich Date: 12/19/01 Job Code: 250045

staff people supports the CPC and work in the following areas—credit risk, information technology, financial elements, and fiduciary activities

Fed Has Resident CPC Team and Separate Exam Team for BNY

The CPC team primarily works to build and maintain a close regulatory relationship with BNY, as opposed to performing the actual examinations. Mr. Accornero noted that the CPC team member responsible for looking at BNY's fiduciary activities would deal with its broker-dealer services division. BNY's broker-dealer services division falls under the bank's securities operations and mutual funds services business lines. The Fed occupies an office suite that is physically very close to BNY (32nd floor of 1 Wall Street), as do the New York State examiners. According to Mr. Accornero, who is the Board's lead analyst for BNY and not a member of the CPC team, BNY is a big player in the custody and corporate trust businesses as well as the American depository receipts business. Technical teams, who are separate from the CPC teams, actually perform the examinations.

Telecom Lines Often Failed During Transactions Leading to a Large Number of Fails

Mr. Accornero provided us with a brief overview of the events that unfolded at BNY on 9/11. BNY operated its core production applications for securities clearance and tri-party repos out of a data center at 101 Barclay Street. Its broker-dealer services division was located at One Wall Street. Normally, cash comes in to BNY from the Depository Trust Company for settlement first thing in the morning, so that BNY's brokerdealer customers could then use the cash for other transactions. However, the attacks occurred before broker-dealers take out what cash was owed'"" them. He also said that BNY's Fedwire connection was in one location, i> general ledger processing in another, and its securities processing in a third. The communication lines among worked intermittently and sometimes failed during the course of processing transactions. Therefore, sometimes neither BNY nor its customers knew if the transaction had been completed and there were a large number of fails. Mr. Accornero stated that there were a number of contributing factors that led to BNY's problems.

Government Securities Clearing Software Has Been a Supervisory Issue in the Past

BNY has been on the Fed's "radar screen" for the past few years. Ms. Haden told us that the Fed has always watched BNY closely because of BNY's unique business (focus on processing as opposed to credit lines and its role as a key player in government securities and other businesses). Mr. Accornero stated that in 1999-2000 the Fed's supervisory focus at BNY was on its anti-money laundering infrastructure. Another past supervisory theme with BNY has been its aging software system that supports its government securities clearing activities. The most recent examination focus has been on transaction reconstruction. Soon after the attacks, the Fed focused on making certain that BNY's reconciled with those of key market utilities. The focus then was on BNY's large customers. Ms. Haden told us that the Fed is limited to a certain extent in what it can require of BNY to do. For example, the Fed has reached an agreement s~ with BNY to address the problems created by its aging government securities clearing system. This is considered supervisory action.

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Record of Interview

Index: DOC Library: Goal 1 DOC Number: 335011

Prepared by: Toni Giilich Date: 12/19/01 Job Code: 250045

However, she noted that the Fed could not tell BNY to go out and buy a new system. The Fed's role is to encourage BNY to improve without interfering with its business lines.

Mr. Accornero then briefly described the supervisory documentation provided for our review and provided context on the supervisory processes associated with the documentation. Ms. Richards noted that the Fed does not share these documents with the banks. These documents are summarized below.

Review of Documentation

Operational and High Risk Assessments He stated that the CPC teams generally prepare risk assessments of banks every year and update the information quarterly. Moreover, the Fed's supervisory plan for the banking organization is based on these risk assessments. He said that during the mid 1990s, the Fed changed its supervisory approach—from one "bulk" examination of a bank to a series of examinations. The risk assessments are an example of the new approach. Because BNY is in an operational risk evaluation program, we reviewed BNY's 2000-2001 risk assessments (Composite Operational Risk Assessment, Appendix D—2000). It indicated that overall, BNY has established a marginally acceptable operational risk program. The assessment was based on the marginally acceptable policies and procedures and information technology practices noted, combined with the improvements required within the risk management and governance and audit department. The document also indicated that BNY's government securities clearance business experienced repeated system failures due to problems with the computer system on which this business line functions. The Broker-Dealer Services, High Risk Assessment, Appendix D—9/25/01, also discussed information technology issues related to BNY's brokerdealer services division. It indicated that the software, Transaction Management executive (TMX), continues to be unable to sustain growth and compromises the integrity of operations. It mentioned outages in its operations from May 1999 to April 2000 that resulted in 28 Fedwire extensions. TMX is not readily portable to other environments due to its technical implementation. (Auditor's Note: This might be what the BNY people meant when they said that their tertiary site was not set up to handle the processing of their government securities operations). The assessment noted however, BNY was in the midst of replacing TMX and that once a replacement has been installed, its broker-dealer services area would improve. We reviewed examination reports for BNY that covered 2001, 2000, and 1999.

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Record of Interview

Index: DOC Library: Goal 1 DOC Number: 335011

Prepared by: Toni Gillich Date: 12/19/01 Job Code: 250045

Mr. Accornero also provided us with a document that described events BNY in the period immediately following the attacks. This is the only document of which we kept a copy after our review.

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Record of Interview