, that exposures to emerging economies could present substantial risk. given these events, the u. s. banking system has remained strong, possibly in large part because the recession in this country seems to have been relatively mild and short - lived. more directly, the strength seems also to reflect improvements in risk management at many banks and a greater awareness throughout the industry that institutions should promptly address problems as they emerge. this time both the banking industry and the regulatory agencies appear to have done just that - - acted promptly - and without going too far and unnecessarily constraining credit. much of the weakness among banks recently has been concentrated in large regional and money center banks, rather than in smaller institutions. bank earnings reached a record level in the first quarter of 2002, with one of the highest quarterly return - on - assets ratio ever reported of 1. 33 percent. net interest income was the driver of stronger revenue, despite lower commercial loan volume. loan loss provisions were significantly above the first quarter of 2001, although below levels of the fourth quarter. higher charge - offs were concentrated in commercial loans at large banks and in credit card specialty lenders. what areas may present heightened risks to community banks today? first, for most of the past decade, community banks - - particularly those in the asset range of $ 100 million to $ 1 billion - - have actively expanded their commercial real estate lending. since the early 1990s, larger community banks have expanded their commercial real estate portfolios from 13 percent of aggregate assets to 22 percent. to date, these credits have generally performed well, and my comments are not intended to suggest a material concern. these credits, however, account for most of the group ’ s increase in nonperforming assets over the past year. given the checkered history of commercial real estate lending and its increased relevance to many community banks, this portfolio must be monitored and managed carefully. we have often seen the cyclical nature of commercial real estate and its links to the general level of economic activity. the loss of anchor firms such as k - mart, for example, may reduce the market value of certain shopping centers and the consumer traffic and the financial strength of nearby businesses as well. the second area of potential risk relates to interest rates. for the industry overall, the federal reserve ’ s rate cuts last year may have proved to be a mixed blessing. lower interest rates undoubtedly eased payment pressures on many borrowers and prevented further deterioration in the quality of bank loan portfolios. liability

than the large banks have paid, their net interest margins were still much higher, and by a growing differential in recent years. measured by return on assets, small banks have done as well as or better than large banks in all but a handful of years over the past decade and a half. managing risks the health of financial institutions today also reflects the improvement in risk management process that has been ongoing at banks for years. increasingly, the entire risk management process has become more quantitative, reflecting not only the enhanced ability and lower costs of collecting and processing data but also improved techniques for measuring and managing risk. larger banking organizations quantify a borrower ’ s probability of default, the bank ’ s loss given default and its likely exposure at the time of default - - practices upon which we are trying to construct new international capital standards. the greater use of credit scoring has, it seems, improved risk management as well. such tools should perform even better after the effects of the most recent economic slowdown are incorporated. consumer credit models were developed after the 1990 - 91 recession, and so their reliability in predicting credit quality in the current slowdown is yet to be determined. further, we are already observing increases in delinquencies in subprime lending. since many of these borrowers did not have significant access to credit in previous recessions, their ultimate default rate will also help to validate the strength of the new statistical models. community banks have greatly improved their management of interest rate risk in recent years. information developed from models that are used to identify sensitivity to market changes in the mix of loans and deposits are now part of asset / liability committee meetings at community banks. as a result, managers can better anticipate changes in net interest income and respond appropriately to their unique competitive conditions. community bankers are also developing new revenue streams that will help to manage risk by diversifying sources of earnings. in addition, the fee income streams help to increase the cross - sell ratio with key customers. this in turn should improve customer loyalty, another factor that should help manage risk by stabilizing revenue. providing the personal touch has served community banks well, but conducting sound market research and pricing to reflect competition, customer value, and risk are becoming more important for success. the arthur andersen matters and other corporate events currently being addressed provide good risk management lessons for bankers as they try to increase earnings by cross selling more products. when line officers are compensated on sales and cross selling, a strong, independent quality assurance or risk