The Federal Reserve blamed last month’s collapse of Silicon Valley Bank on poor management, watered-down regulations and lax oversight by its own staffers, and said the industry needs stricter policing on multiple fronts to prevent future bank failures.
The Fed was highly critical of its own role in the bank’s failure in a report compiled by Michael Barr, the Fed’s chief regulator, and released Friday. As Silicon Valley Bank grew rapidly beginning in 2018, banking supervisors were slow to recognize problems that eventually contributed to the bank’s downfall, including an increasing amount of uninsured deposits and inadequate safeguards against a sudden change in interest rates. Once those problems were identified, supervisors appeared unwilling to press the bank’s management to address the issues, the report said.
The passive approach stemmed from actions taken by Congress and the Fed in 2018 and 2019 that lightened rules and regulations for banks with less than $250 billion in assets, the report concluded. Both Silicon Valley Bank and New York-based Signature Bank, which also failed last month, had assets below that level.
The changes increased the burden on regulators to justify the need for supervisory action, the report said. “In some cases, the changes also led to slower action by supervisory staff and a reluctance to escalate issues.”
A separate report from the Federal Deposit Insurance Corp. said the failure of Signature Bank was likely fallout from the collapse of Silicon Valley Bank. The FDIC also found its own regulatory deficiencies, notably insufficient staffing to adequately supervise Signature Bank, which was based in New York. The agency also took a light-handed approach to regulation, the report found.
Both SVB and Signature had large amounts of deposits that exceeded the FDIC’s insurance cap, making them vulnerable to a panic. SVB’s wealthy clients, many in the tech industry, fled after the bank said it needed to raise capital. Signature’s customers appeared to get nervous about the developments at SVB, as well as Signature’s large exposure to cryptocurrencies, which accounted for 20% of its assets.
In its report, the Fed said it plans to re-examine how it regulates larger regional banks such as Silicon Valley Bank, which had more than $200 billion in assets when it failed, although less than the $250 billion threshold for greater regulation.
“While higher supervisory and regulatory requirements may not have prevented the firm’s failure, they would likely have bolstered the resilience of Silicon Valley Bank,” the report said.
The report is likely to reignite a debate about the proper scope of bank regulation that has ebbed and flowed since the 2008 financial crisis and the Dodd-Frank legislation that followed two years later that imposed a new set of rules on banks. In 2018 a law that passed with bipartisan support in Congress and that was strongly supported by the banking industry, sought to loosen those rules, particularly for banks smaller than the largest global lenders.
Banking policy analysts said the critical reports make it more likely regulation will be tightened, though the Fed acknowledged it could take years for proposals to be implemented.
The reports “provide a clear path for a tougher and more costly regulatory regime for banks with at least $100 billion of assets,” said Jaret Seiberg, an analyst at TD Cowen. “We would expect the Fed to advance proposals in the coming months.”
Alexa Philo, a former bank examiner for the Federal Reserve Bank of New York and senior policy analyst at Americans for Financial Reform, said the Fed could adopt stricter rules on its own, without relying on Congress.
“It is long past time to roll back the dangerous deregulation under the last administration to the greatest extent possible, and pay close attention to the largest banks so this crisis does not worsen,” she said.
The Bank Policy Institute, a trade group that represents the largest banks, said the Fed report was wrong to single out deregulation as a contributing factor to Silicon Valley’s collapse. Instead, the BPI said, the Fed’s report points to the failure of bank supervisors to enforce existing rules, “suggesting that the regulations were fit for purpose, but the examiner response was inadequate.”
The Fed’s report, which includes the release of internal reports and Fed communications, is a rare look into how the central bank supervises individual banks as one of the nation’s bank regulators. Typically such processes are confidential, and rarely seen by the public, but the Fed chose to release these reports to show how the bank was managed up to its failure.
Bartlett Collins Naylor, financial policy advocate at Congress Watch, a division of Public Citizen, was surprised at the degree to which the Fed blamed itself for the bank failure.
“I don’t know that I expected the Fed to say `mea culpa’ – but I find that adds a lot of credibility,” to Federal Reserve leadership, Naylor said.
The Fed also criticized Silicon Valley Bank for tying executive compensation too closely to short-term profits and the company’s stock price. From 2018 to 2021, profit at SVB Financial, Silicon Valley Bank’s parent, doubled and the stock nearly tripled.
However, there were no pay incentives tied to risk management, the report says. Silicon Valley Bank notably had no chief risk officer at the firm for roughly a year, during a time when the bank was growing quickly.
The report also looks at the role social media and technology played in the Silicon Valley Bank’s last days. The Fed notes that social media was able to cause a bank run that happened in just hours, compared to days for earlier bank runs like those seen in 2008.
Although regulators guaranteed all the banks’ deposits, customers at other mid-size regional banks rushed to pull out their money – often with a few taps on a mobile device – and move it to the perceived safety of big money centre banks such as JPMorgan Chase.
The withdrawals have abated at many banks, but First Republic Bank in San Francisco appears to be in peril, even after receiving a $30 billion infusion of deposits from 11 major banks in March. The bank’s shares plunged 75% this week after it revealed the extent to which customers pulled their deposits in the days after Silicon Valley Bank failed.