The Fed to release Silicon Valley Bank postmortem report

It’s been six weeks since the collapse of Silicon Valley Bank and Signature Bank threatened to kick off a nationwide bank run. Now, U.S. regulators are due to issue their postmortem reports.

The Federal Reserve plans to release a report Friday on whether there were lapses in its oversight of Silicon Valley Bank that may have contributed to the bank’s failure.

Separately, the Federal Deposit Insurance Corp. will also report Friday on how the regulator supervised New York-based Signature Bank, which failed days after the Silicon Valley lender.

The sudden implosion of two big regional banks rattled nerves throughout the financial system last month, forcing the federal government to take emergency steps to prevent a nationwide bank run.

What did the Fed know – and when did it know it?

It was a “textbook case of mismanagement.”

That was how Michael Barr, the Fed’s vice chair for supervision, described the failure of Silicon Valley Bank during Senate testimony last month.

But the Fed has also promised to examine whether gaps in its own oversight allowed problems at the bank to fester.

Supervisors from the Federal Reserve had sounded warnings about risk management practices at Silicon Valley Bank as early as 2021, but the problems weren’t corrected.

It’s not clear why the warnings weren’t treated more urgently by bank management – or higher-ups at the Fed.

“We need to have humility, and conduct a careful and thorough review of how we supervised and regulated this firm, and what we should learn from this experience,” said Barr, in announcing the Fed’s internal audit of what happened at Silicon Valley Bank.

Dennis Kelleher, who heads the watchdog group Better Markets, blames a deregulatory push in recent years that promoted a light touch on bank oversight.

“The Wall Street Journal had a big headline in 2018 that said, ‘Banks To Get Kinder, Gentler Treatment Under Trump Regulators,'” Kelleher said. “The entire story was about how the Fed people in Washington were beating up on the supervisors to go easy on the bankers.”

The report is also expected to address whether mid-sized banks should be subject to more frequent “stress tests,” to ensure they can weather financial challenges.

Currently, only the biggest banks — with at least $250 billion in assets — have to undergo a stress test every year. That threshold was raised in 2019, sparing institutions the size of Silicon Valley Bank from the additional scrutiny.

Whose deposits are protected?

Signature Bank in New York was shuttered two days after Silicon Valley Bank. The FDIC is due to examine whether there were any issues with how it supervised the East Coast lender.

Both banks had a large share of deposits that exceeded the usual FDIC insurance limit of $250,000 — putting them at high risk of rapid withdrawals if customers got spooked.

With emergency approval from the Treasury Secretary and the Fed, the FDIC agreed to insure all deposits at the two failed banks, regardless of the limit. That helped to discourage a wider bank run, but backstopping the uninsured deposits will cost the FDIC’s insurance fund an estimated $19.6 billion. The money will be recovered through a special assessment on other banks.

Now, policymakers may explore changes in the deposit insurance system. Some have argued the $250,000 cap on insured deposits is too low, especially for businesses with large payrolls. But insuring unlimited deposits would be costly. The ten largest accounts at Silicon Valley Bank held a total of $13.3 billion.

Changing the insurance limit would require Congressional action. The FDIC is expected to spell out policy options in a separate report next week.

What about beyond these two reports?

Fears of a nationwide bank run have eased since last month, but the episode has left lingering scars.

In the days following the banks’ failure, other small banks saw a record outflow of deposits totaling $119 billion. Although deposits have since stabilized at most banks, lenders are expected to be more cautious about extending credit.

That caution, along with higher interest rates, creates an additional drag on economic growth, and it’s leading to a growing risk of a recession later this year.

“Every borrower across the country — small, medium and large — is going to find it much more difficult and much more expensive to get credit,” said Ian Shepherdson, chief economist at Pantheon Macroeconomics. “The economy’s going to be materially weaker than it likely would have been without the SVB and Signature failures.”

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