The collapse of Silicon Valley Bank last week sent the financial world into turmoil, and has started to bleed into politics.
But much about what actually happened in the years, months and days before the bank’s implosion remains poorly understood. The chaos has revealed, however, big questions that could shape accountability for the bank’s collapse, and the federal response.
TPM spoke with several experts to suss out a non-exhaustive list of questions that frame up the crisis.
Where were the supervisors?
The Wall Street Journal reported in November 2022 that the Fed’s interest-rate hikes were inflicting losses at SVB — the balance sheet problem which ended up sparking the bank run last week.
Rating agencies and various short sellers also released reports documenting the same issue.
“The media knew it, shorts knew it, the rating agencies knew it, and then clearly the Fed was grossly deficient here,” Dennis Kelleher, CEO of the banking reform group Better Markets, told TPM.
That left many wondering how supervisors might have missed the same warning signs that so many others saw.
“It’s not as if supervisory authorities are toothless — there was definitely room to extract valuable info here,” Skanda Amarnath, executive director of the economic research and advocacy group Employ America, told TPM.
One recently retired Federal Reserve bank examiner, who spoke on condition of anonymity, told TPM that it was unclear whether bank examiners with the San Francisco Federal Reserve, the main federal regulator for SVB, had taken steps to push the bank to resolve its balance sheet issues.
“The supervisors got to see the same risk management problems as everyone else, and apparently not much happened,” the person said.
What role did the 2018 bank deregulation play?
A lot of talk has focused on a push for deregulation that saw Congress, in 2018, loosen regulatory requirements on mid-size regional banks that had originally been put in place through the Dodd-Frank Act in the wake of the 2008 financial crisis. These 2018 changes slackened regular stress testing, and lightened internal liquidity ratios that mid-sized banks had to maintain.
Congress also changed the threshold at which banks were deemed “systemically important” from $50 billion in assets to $250 billion. Banks in that category receive extra supervision and regulatory requirements, including more stringent capital and liquidity requirements, annual stress tests, and the requirement to have a so-called “living will” — a plan for how the bank will be resolved should it fail.
Lawmakers gave the Federal Reserve some leeway in how it interpreted the new law and how it policed individual banks. The Fed took that leeway and implemented the law in a manner that was less aggressive than it could have.
Under Fed policy, it chose not to treat SVB — then a bank with assets fewer than $250 billion — with the scrutiny that it would give to systemically important lenders. The Fed did that by choosing to exempt banks holding between $100 billion and $250 billion in assets from having to perform company-run stress testing, and to maintain a certain liquidity coverage ratio — a measure designed to ensure that a bank has enough liquid assets to withstand a bank run.
Because SVB saw roughly $42 billion in deposit withdrawals take place across a single day last week, many who followed the saga of the 2018 deregulation have been left wondering: would heightened liquidity ratios of the sort in place before 2018 have protected the bank against a run of that size?
Amarnath argued that the pre-2018 regulations would at the very least have forced management to consider what deposit outflow they’d have to cushion for. The makeup of SVB’s depositors raises another question, he said: “Why are you so vulnerable to a concentrated deposit outflow that you’re sunk in two days?”
“In the case of SVB, there were key reasons to believe that there would be more outflows in a stressed period if all of your depositors are chunky businesses controlled by a set of VCs,” he said.
Kelleher, the Better Markets CEO, said that looking at the specific liquidity requirements, while important, missed the aggregate effect that other, now-weakened aspects of Dodd-Frank would have imposed on SVB.
He added that other elements of the law, like the removal of internal, regular stress tests and the imposition of quarterly, instead of monthly, liquidity tests likely created more room to operate the bank in a “reckless and unsafe” manner.
“They all interrelate and build on each other and create a matrix that is greater than the sum of the parts,” he said.
How did the risks at SVB accumulate?
Much commentary has presented the cause of the run on SVB as fairly straightforward: the bank bet on interest rates staying low and didn’t hedge, creating a fatal vulnerability which exploded last week.
But it’s far less clear why its leadership made the decisions that led to that reality.
SVB grew astronomically in the years after the 2018 deregulation. Fortune reported that SVB doubled its deposits from March 2020 to March 2021, while the bank’s assets also grew by roughly two-thirds from 2019 to the end of 2020.
The Wall Street Journal reported that SVB dropped hedges on $14 billion in its securities by the end of 2022. It’s not clear why bank management did that, or what overall picture the bank’s investors were looking at.
“Everyone is pointing to and discussing the astonishing level and amount of uninsured deposits, and that’s an important factor,” Kelleher said, while also referencing the maturity mismatch, unrealized losses, and other apparent problems at the bank.
But he added that SVB had other “red flags” that bank management should have been accounting for, including highly correlated deposit holders that, in a crisis situation, could move as a pack.
“One is that they had extreme geographic concentration of customers, and a concentration of a particular type of customer within a specific geographic area, which is high tech firms, biotech firms,” he said, describing it as a “particular type of client that was extremely interest-rate sensitive.”
Saule Omarova, a professor at Cornell Law School and former Biden nominee for the position of Comptroller of the Currency, a financial regulatory role that would not have overseen SVB, said that the complexity which led to SVB’s rapid increase in uninsured deposits and a fragile balance sheet was a one-way bet on interest rates staying low.
“It’s a simple story on the surface in terms of what directly caused this particular bank run or created the possibility of the bank run,” she said. “And then there is a much more complex story underneath that has to do with structural factors.”
How bad was the risk of contagion?
Omarova framed up a broader question to TPM.
“Why is it that an institution that only five years ago was explicitly, legally deemed to be systemically insignificant was deemed this weekend to be systemically significant?” Omarova asked.
She was referencing the 2018 deregulation law — which exempted banks smaller than $250 million from regulatory safeguards — and the Fed’s subsequent interpretation of that law, holding that SVB did not pose a systemic risk to the country’s financial system, and was therefore worthy of a lighter regulatory and supervisory touch.
On Sunday, the FDIC, the Fed and the Tresury issued a joint statement saying that would take a set of action suggesting that SVB did pose a systemically significant risk to the rest of the financial sector.
“The Fed, the Treasury, the people who actually made that call, I want to think that they did what they thought was the only right way to handle it, and they must have had information that really drove it,” Omarova said. “Otherwise, if thats not the case, then we are in a very interesting kind of political economy situation.”
