The SVB Hearings

On March 28 and 29, the Senate and House Banking Committees held hearings on the collapse of Silicon Valley Bank and, to a lesser extent, Signature Bank.  The hearings ran a total of seven hours.  I watched the hearings, so you don’t have to.  Testifying were the Federal Vice Chair for Supervision, Michael Barr, FDIC Chairman, Martin Gruenberg, and Treasury Undersecretary Nellie Liang.  Here are a few themes from the hearings.

Members of Congress emphasized accountability but made sure to deflect any blame from themselves.  Supporters of the 2018 legislation loosening rules for banks like SVB and Signature stressed supervisory failures rather than legislative gaps.  They also emphasized that the legislation didn’t explicitly exclude banks in the $100-250 billion range from enhanced supervision but made those decisions subject to “FRB discretion.”  While a certain amount of discretion is a key element of an examiner’s job, light touch legislation or regulations frequently include these sorts of elastic clauses as a classic pass the buck move.  Rep. Jim Himes excoriated some of his colleagues for their tendency to “defund, destroy, and denigrate” regulators while at the same time “holding them entirely responsible for what went wrong.”

Vice Chair Michael Barr did not blame the 2018 legislation for the problem, either.  This was likely a strategic move.  Barr wanted to retain full latitude to adjust the Fed’s tailoring rules to existing legislation, concluding that new legislation from Congress stood a snowball’s chance.  Keep in mind that Barr is an attorney.  He must be well aware of efforts by some conservative judges to scale back, if not overturn, the Chevron doctrine.  The doctrine gives deference to administrative actions (e.g., by regulators) if the interpretation of existing statute is reasonable.  Some legal scholars, including a couple of Supreme Court justices, believe Chevron gives too much power to unelected bureaucrats, rather than … to unelected judges – with lifetime tenure.  Any suggestion by Barr that the current legislation hamstrings the Fed would undermine any efforts to adjust the regulation and invite a legal challenge.

Problems at SVB were obvious – in hindsight.  Senator Scott stated that the warning signs were “clear as a bell.”  This manta was repeated throughout the hearings.  Senator Tester observed, “you didn’t have to be an accountant to figure out what the hell was going on here.”  Easy to say now.  As I pointed out in an earlier post, there were some clear red flags even apparent from publicly available information.  SVB had an extreme concentration of uninsured deposits and a deeply underwater investment portfolio.  At the same time, rating agencies, stock analysts, and yes, accountants missed these signs and saw SVB as reasonably healthy until days before it failed.

Regulators failed to act quickly enough.  Banks tend to fail gradually, then suddenly, and SVB’s and Signature’s end came more suddenly than usual.  SVB had the worst deposit run in history, by a wide margin.  Regulators acted quite quickly following SVB’s collapse and in the immediate aftermath, though they still received some criticism for not acting quickly enough.  The speed and decisiveness of the Fed’s corrective actions during the gradual phase is more open to criticism.  Citing the bank for a matter requiring attention (MRA) or a matter requiring immediate attention (MRIA) doesn’t mean that examiners can wave a magic wand to make a problem go away.  That’s especially true if the problem is more systemic in nature.

Still, the pace of corrective actions, especially for larger banks, can be frustratingly slow.  At OCC, we had 45 days after a review to issue a Supervisory Letter, which may include MRAs.  The bank would then have 30 days to submit a plan to fix the problem.  If the plan was inadequate, we would kick it back to the bank and the process would start all over again.  I’m less familiar with the FRB’s process but the Fed tends to go through more levels of review.  The more complex cases also tend to take longer to fix.  What we don’t yet know is how much pushback the Fed received from SVB management.  More pushback or threats of litigation slow things down even further.

We do know something about CCAR requirements.  The Fed’s CCAR stress test requirements would start to apply to SVB in 2024.  The Fed subjects holding companies between $100-250 billion in assets to stress tests every other year.   SVB passed $100 billion in assets by year-end 2020 and reached $211 billion by year-end 2021.  CCAR asset thresholds are based on four-quarter average assets, which means a longer phase-in for fast growing banks like SVB.  The trouble is that rapid growth is itself a major risk factor.

Barr’s worst moment.  Michael Barr received the most questions and handled himself reasonably well during the hearing.  He walked a fine line between being responsive to concerns about regulatory lapses without prematurely throwing anyone under the bus. 

Barr emphasized the overall strength and resilience of the banking system.  I understand the need to inspire confidence since a run could kill almost any bank.  But he then went a step further to state, “Most banks” are “highly effective in managing interest rate risk and liquidity risk.”  Here he sounds like the banking industry’s cheerleader rather than their regulator.  I also doubt that he knew this to be the case.  For one thing, many other banks have used the held-to-maturity designation to wish away their interest rate risk.  More importantly, Barr is too far removed from day-to-day supervision to generalize about individual banks.  Barr only learned of the IRR issues at SVB in mid-February 2023.  Does he really have detailed knowledge of the risk practices of the 700+ banks and nearly 5,000 bank holding companies the Fed supervises?

What didn’t receive enough attention.  Although the hearings ran seven hours in total, I thought some topics received too little attention.  The hearings barely touched on the failure of Signature Bank, even though it was the third biggest bank failure in history.  SVB and Signature are chartered by the states of California and New York, respectively, who serve as their primary regulators.  Rep. Mike Lawler asked whether larger banks like SVB should be federally rather state chartered.  Barr responded that the country “benefits from diversity in chartering authorities.”  In other words, following the second and third biggest bank failures in history, banks should continue to be able to shop for their regulator.  Neither Lawler nor the other members of the Committee challenged Barr’s assertion or otherwise followed up.

Committee members didn’t offer much challenge to the government’s decision to cover uninsured SVB and Signature depositors even though they are above the insurance limit under an exception that is not supposed to apply to them.  There was some grousing from Representatives from Texas and elsewhere that banks in their districts would see an increase in their FDIC premiums due to the failures of a couple of “coastal banks.”  Back in the 1980s, a large share of S&L and bank failures came from Texas, so I guess turnabout is fair play.

The hearings revealed that SVB had a composite rating of “3.”  Bank ratings run from “1” (best) to “5” (worst).  While “3” is the middle rating, it is considered “less than satisfactory.”  Still, that does not suggest a bank at the brink of failure and SVB would not have met the FDIC’s definition of a problem bank.  More surprising, however, is that the Liquidity component was rated “2,” a satisfactory rating.  It’s hard to see how a bank with SVB’s concentration of large, uninsured deposits and apparent risk management shortcomings could have a liquidity rating of “2.”  This point didn’t get much scrutiny during the hearings.  We’ll see if the Fed’s internal review, due May 1st, addresses this elephant in the room.