In the wake of the failure of California’s Silicon Valley Bank and then New York’s Signature Bank last week, federal regulators took emergency measures to stop the panic and shore up confidence in the nation’s banking system.
Initially, it worked. But, we’re still not out of the financial woods, yet.
When panic selling crushed SVB – customers withdrew $42 billion in a single day leaving it with a $1 billion negative cash balance – federal regulators stepped in over the weekend.
The U.S. Treasury, the Federal Reserve, and the Federal Deposit Insurance Corp. in coordination with President Joe Biden, quickly decided to back SVB deposits beyond the federally insured ceiling of $250,000. That’s the FDIC guarantee – the promise for the vast percentage of small investors with their money in the bank.
The intervention to rescue the bank’s high tech and start-up clients with their assets in SVB and payrolls to meet, forced regulators to invoke a “systemic risk exception,” an extraordinary measure that allows financial regulators to step in without congressional action.
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The exception required approval from all three regulatory agencies in consultation with Biden.
Biden himself assured bank customers “Your deposits will be there when you need them.” He said if the FDIC took over SVB, “the people running the bank should not work there any more” and promised no losses would be borne by taxpayers.
The quick action soothed nervous bank customers at first – particularly since it posed the idea that other banks with panic problems might get similar help. But Wall Street was still roiling at mid-week, Moody’s Investors Services gave the U.S. banking system a harsh blow when it downgraded it from stable to negative citing a “rapidly deteriorating environment”and banking issues spread abroad to Credit Suisse Bank in Switzerland.
As usual, Americans were looking for someone to blame. Some alleged financial mismanagement by SVB executives and there’s no doubt that the SEC and federal investigators will be looking at that.
Some blame the Fed, which quarter after quarter kept raising the prime interest rates as it tried to drive down inflation. Those moves, in particular hurt SVB because it bought bonds, normally a good conservative investment, at rates that were low. When the Federal Reserve increase those rates to fight inflation, the value of the lower interest SVB-held bonds decreased and when it need to sell bonds to raise cash for its customers’ withdrawals, it could only do so at a discount, taking a loss.
And some blamed Twitter for fueling the collapse because it allowed prominent venture capitalists to use their platforms to raise alarms about SVB – which caused a run on the bank.
In our view, much of the blame belongs to our friends in Congress, who took the advice of bankers years ago that regional and smaller banks were not a threat to the nation’s banking industry as a whole and sought less government oversight.
In the aftermath of the Great Recession caused by excessive risk-taking that led to the financial crisis, Congress passed the Dodd-Frank Act that tightened regulatory oversight of banks in the country and imposed stiffer reporting standards in 2010.
Eight years later, at the behest of the banking industry, Congress revisited the law and decided to exempt 25 of the 38 largest banks in the U.S. from the stronger capital and liquidity rules, stress testing and enhanced risk management standards required under Dodd-Frank. Then President Donald Trump signed off on it.
At the time, House Speaker Paul Ryan, R-Wisconsin, said the change “addresses some of Dodd-Frank’s biggest burdens to ease the regulatory costs on these small banks – costs which are ultimately transferred to consumers.”
Ryan was opposed by Sen. Sherrod Brown, D-Ohio, current chair of the Senate Banking Committee, who said at the time: “If enacted the bill would make the U.S. financial system – and key regional economies – more vulnerable to another financial crisis. Potentially putting taxpayers on the hook to bail out the same banks once again.”
We would urge Congress to go back and look at the Dodd-Frank exemptions again and bring smaller regional banks back under scrutiny before there is another panic.
In Wisconsin, we call that locking the barn door.