Profitability for the federal banking system improved in the first half of 2023 even as banks continued to navigate a higher interest rate environment, uncertain economic climate and fallout from the failure of three regional banks in the spring, the Office of the Comptroller of the Currency said its fall semiannual risk perspective, released today. The report, which covers the first half of the year, concluded that the banking system remains sound, but noted that credit risk is rising while operational and compliance risks remain elevated.
Overall net income for the banking system increased 21% in June from a year ago and 5% for community banks, which the OCC defined as banks with less than $10 billion in assets. In the second quarter, net income for community banks declined 0.3% compared with the same period a year earlier, and slowed to 15% for the system, “reflecting profitability pressures that intensified in the second quarter as margins came under pressure,” the agency said.
Credit risk is increasing due to higher interest rates, increasing risk in commercial real estate lending, prolonged inflation, declining corporate profitability and potential for slower economic growth, the OCC said. Operational risk remains elevated as cyber threats continue. Compliance risk is also elevated due to several factors, such as from banks expanding partnerships with financial technology firms and other third-party service providers. At the same time, competition for deposits and higher interest rates are raising deposit rates. “Deposit and liquid asset trends stabilized in the latter half of 2023, but these levels were supported by increased reliance on wholesale funding,” the agency said.
In addition, the OCC flagged artificial intelligence as a special topic in emerging risks. The agency said that “many risks can arise from all types of AI, such as lack of explainability, reliance on large volumes of data, potential bias, privacy concerns, third-party risk, cybersecurity risks, and consumer protection concerns. The use of generative AI may pose additional risks including providing inaccurate responses that appear credible.” The OCC added that it is technology neutral and is supportive of banks’ efforts to deploy AI in a safe and sound way due to its many benefits, but will continue to monitor its use to ensure appropriate risk management practices are in place.