Supervision chief advocates re-evaluation
The Federal Reserve’s bank supervision chief, Michael Barr, has called for a re-evaluation of the Fed’s oversight of US financial firms following the failure of Silicon Valley Bank.
In a letter accompanying a lengthy report released on Friday, Barr said the Fed would revisit the range of rules that apply to firms with more than $100 billion in assets, including stress testing and liquidity requirements.
The report, which spans 102 pages, provides a detailed view of how the situation at SVB quickly deteriorated, and the factors that led to its collapse.
It also points to the need for stronger standards applied to a broader set of firms, including more stringent stress testing and liquidity requirements, which could include additional capital or liquidity requirements, or limiting share buybacks, dividend payments, or executive compensation.
“The report represents the first step in that process,” said Barr.
He added that the Fed would re-evaluate how it supervises and regulates a bank’s management of interest-rate liquidity risks, and suggested that the Fed should require a broader set of firms to take into account unrealized gains or losses on available-for-sale securities.
The recommendations are likely to face fierce resistance from Republicans in Congress and the banking industry, as they view the report as self-serving, although they agree that attention to liquidity issues is vital. Chair Jerome Powell said he agreed with and supported Barr’s recommendations.
SVB’s failure was the largest in the US in more than a decade, with about $209 billion in assets at the end of last year. Its failure was due to an interest-rate shock in its bond portfolio that led to a destabilizing deposit run.
This resulted in regulators ensuring all depositors prevent a widescale run on the banking system. In addition, the Fed launched an emergency term lending facility for banks.
The report indicates that management expected to lose over $100 billion in deposits on the day the bank was shuttered, on top of the over $40 billion that flooded out of the bank the day before.
The FDIC, the primary regulator for Signature Bank, which also failed, will release a separate review on its oversight of the bank.
Barr’s report also calls for changes to improve the speed, force, and agility of supervision, including more continuity in how the Fed oversees banks of different sizes so that firms are ready to comply quickly with heightened supervisory standards as they grow.
He also called for stronger penalties for banks that fall short of supervisory standards, such as more quickly requiring banks to raise capital if deficiencies are found.
“Higher capital or liquidity requirements can serve as an important safeguard until risk controls improve, and they can focus management’s attention on the most critical issues,” he said. “As a further example, limits on capital distributions or incentive compensation could be appropriate and effective in some cases.”
The report shows regulators were aware of most of the bank’s lurking issues, but by the time they took steps towards decisive action, it was too late.
Barr blamed the approach under his predecessor, Randal Quarles, who served as Fed vice chair for Supervision from 2017 to 2021 and led the Fed’s effort to “tailor” regulations for mid-size and regional lenders, following 2018 legislation that eased rules for those firms.
The report represents one of the most detailed looks to date at how the Fed supervised an individual bank, a process that is often shrouded in secrecy and confidentiality.
The Fed’s Board “has determined that releasing this information is in the best interest of the public,” the report said.
The Fed will seek comment on such proposals soon, Barr said, although he noted that any such rules would not take effect for several years. Other possible steps will follow later.
