IndyMac regulator could feel heat from senator

WASHINGTON (Reuters) - A dust-up between a top U.S. banking regulator and an outspoken senior senator over blame for the country's third biggest bank failure shows no signs of cooling and could help alter the regulatory landscape.

John Reich, director of the Office of Thrift Supervision, says New York Democratic Sen. Charles Schumer scared depositors at IndyMac Bancorp Inc IDMC.PK by making public a letter to regulators expressing his concerns about the bank's viability.

In the 11 days after the June 26 letter was made public, depositors withdrew $1.3 billion in deposits from IndyMac, a once big U.S. mortgage lender.

But in a sign investor confidence in the bank had already been rattled, IndyMac's shares had fallen 82 percent since the beginning of the year to June 25, compared with a 23 percent decline of the Dow Jones U.S. financials index .DJUSFN.

In the tiff that erupted on July 11, as IndyMac was seized by the Federal Deposit Insurance Corp, Schumer responded to Reich by charging the OTS had let IndyMac's lending standards erode.

The confrontation has not been forgotten amid heightened anxiety that the IndyMac meltdown could foreshadow a wave of bank failures and questions about whether regulators should have moved sooner to shore up such institutions.

Schumer, a fixture on news and talk shows, New York's senior senator, and a major recipient of Wall Street political donations, has asked the Senate Banking Committee to hold a hearing to examine IndyMac's insolvency and Chairman Christopher Dodd has said he will likely hold a hearing in September.

Schumer is a senior Democrat on the powerful committee that oversees agencies that regulate financial institutions, including Wall Street. He also chairs the Joint Economic Committee, comprised of members of the Senate and the House of Representatives.

The hearing will likely examine the authority and effectiveness of the OTS, an agency that regulates institutions specializing in mortgage lending, experts said.

The Senate hearing could also examine the failures of banks

overseen by other regulators. Top officials from the OTS, FDIC and the Office of the Comptroller of the Currency, the regulator for national banks, are expected to testify.

"I wouldn't be surprised if Schumer uses this (hearing) as an opportunity to turn the tables and say: 'Time to get rid of the OTS and merge it into the OCC (Office of the Comptroller of the Currency),'" said a U.S. banking regulation expert, who asked to remain anonymous.

The OTS and Schumer declined to comment.

Merging the two agencies was one of the proposals made in March as part of the Treasury Department's recommendations for streamlining the regulation of the U.S. financial services industry.

One week after IndyMac failed, Schumer wrote to Treasury Secretary Henry Paulson in support of the consolidation of the OTS and OCC, sources familiar with the letter said.

FDIC Chairman Sheila Bair has said IndyMac was already on the agency's list of problem banks in the second quarter -- institutions that regulators carefully monitor.

SHORTENED LIFE

That suggests IndyMac, founded like Countrywide Financial Corp by David Loeb and Angelo Mozilo, might well have failed anyway without Schumer's letter to the OTS and the FDIC. Countrywide was bought last month by Bank of America Corp

(BAC.N).

"That letter was relatively unimportant," said Robert Eisenbeis, a fellow at the American Enterprise Institute think tank.

Several experts say IndyMac was in serious trouble anyway because it relied heavily on brokered deposits, which are short-term amounts accepted by banks to fund lending activity, while also growing too rapidly at a time when home prices were starting to flatten and head downward.

Brokered deposits are considered volatile because investors chasing high returns can withdraw the money and move it to another institution.

"IndyMac Bank might well have failed with or without the letter. We won't know that," former FDIC Chairman William Isaac said. "But I think it's pretty much indisputable the letter shortened its life."

Like many other institutions caught up in the real estate boom, IndyMac specialized in a type of mortgage that often required minimal documentation from borrowers and jumped into some regions at the height of the market, some experts say.

Reich has said his agency's officials were working behind the scenes to restore IndyMac's health or find a buyer.

"This institution failed today due to a liquidity crisis," OTS Director John Reich said on July 11. "Although this institution was already in distress, I am troubled by any interference in the regulatory process."

But it is not clear insolvency could have been prevented.

"We can't know whether they would have been able to get a capital infusion or merge with another company," Isaac added.

Immediately after Reich blamed Schumer, the senator lashed back.

"Instead of pointing false fingers of blame, OTS should start doing its job to prevent future IndyMacs," Schumer said in a statement on the day FDIC seized the Pasadena, California-based thrift.

(Editing by Andre Grenon)