London, Monday, 13 March 2023
With more than $200 billion in assets, Silicon Valley Bank was the 16th-largest US bank prior to its demise. In contrast, it wasn't subject to the same degree of regulatory oversight as JPMorgan Chase (JPM), Bank of America (BAC), Citigroup (C), or Wells Fargo (WFC).
Why? Because at the end of the previous decade, legislators and regulators decided to relax the requirements for regional banks. Bipartisan legislation that was approved by Congress and the Trump administration in 2018 changed the definition of which banks were considered "systemically essential" to assets of $250 billion rather than $50 billion. In 2019, the Federal Reserve, FDIC, and OCC improved those regulations.
The modifications exempted some regional banks from some of the harshest regulations put in place in the wake of the 2008 financial crisis, a downturn that brought the banking industry to its breaking point. Silicon Valley Bank and other mid-size peers were placed in a new air pocket of the banking universe by the revised regulatory framework: they were no longer considered to be "systemically essential," but they were now large enough to push the system back to the brink, as we have learned.
One significant change was the Fed's decision to exempt banks with assets between $100 and $250 billion from keeping a prescribed "liquidity coverage ratio" as long as they maintained short-term wholesale funding levels below a predetermined level. The goal of the ratio is to determine whether a lender has sufficient high-quality liquid assets to weather a catastrophe. As deposits left Silicon Valley Bank and interest rates increased, the value of its assets decreased, making liquidity a significant issue for the bank.
Jerome Powell, the chair of the Fed, advocated for the improvements in 2019, but not all regulators agreed at the moment. They "weaken fundamental safeguards against the vulnerabilities that did so much damage in the crisis," then-Fed governor Lael Brainard wrote in a letter published by the Fed on October 10, 2019.
In a speech on October 16, 2019, FDIC board member Martin Gruenberg referred to regional banks as "an underappreciated danger" a few days later. Another shift that concerned him was the fact that bank holding companies with assets between $100 and $250 billion were no longer required to provide resolution plans outlining how they would be shut down in the event of failure.
He reportedly stated, "These measures are unwarranted and misguided," in a transcript of his comments released by the FDIC. They ignore the lessons learned from the financial crisis and only serve to heighten the difficulties associated with resolving these institutions and the risk of a disorderly collapse.
Following the 2008 financial crisis, there was a protracted national discussion about which institutions should be subject to more stringent regulation and how. Which institutions are large enough to be considered "systemically important"? Alternatively, which institutions are "too big to fail"?
Because they were so much larger than the rest of the industry, JPMorgan, Bank of America, Citigroup, and Wells Fargo obviously belonged in that group. Each institution has more than $1.5 trillion in assets, and JPMorgan has more than $3 trillion. Other apparent options included Goldman Sachs (GS), Morgan Stanley (MS), State Street (STT), and BNY Mellon (BK).
What about the countless smaller regional institutions dispersed across the nation, though? The first description was given by Congress and President Obama: $50 billion in assets. Due to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, any bank that size or larger would be regarded as "systemically essential" and be subject to the strictest regulation. Among other regulatory requirements, this included annual Fed stress tests to determine whether banks could withstand challenging economic conditions.
A new bar was established eight years later: $250 billion. That came about as a result of the Economic Growth, Regulatory Relief, and Consumer Protection Act, a legislation that President Trump signed in 2018. Institutions with assets below that threshold, such as Silicon Valley Bank, would not be subject to the Fed's yearly stress tests.
The move had been pushed for by Silicon Valley Bank and other local banks. In fact, Greg Becker, CEO of Silicon Valley Bank, stated before a Senate committee in 2015 that his organisation would be "subject to the array of regulatory requirements intended for the largest, most complex banks" if the $50 billion threshold was not increased. Additionally, he claimed that neither his company strategy nor risk profile "posed systemic risk."
Supervisory stress tests would be mandated for banks with between $100 billion and $250 billion in assets every two years. However, they would not be required to keep a standardised "liquidity coverage ratio," which gauges how much high-quality assets a bank has to raise cash when funding disappears during trying economic times, if they had less than $50 billion in average weighted short-term wholesale financing. They did need to keep conducting institution-specific internal cash stress tests.
Silicon Valley Bank was in the $50–100 billion asset category at the time those rules were published, a group for which there were neither stress test standards nor standardised liquidity coverage ratio rules. In the fourth quarter of 2020, it became a member of the $100 billion group.
The bank admitted that it did not meet the Fed's standardised liquidity coverage ratio requirements in a recent federal filing made before its collapse. The Fed "would require us to retain high-quality liquid assets in accordance with specific quantitative requirements and increase the use of long-term debt as a financing source" if that were to change "as a result of further growth."
(Source: Yahoo!Finance // Edit and further research by: The Decision Maker – Banking & Finance editors)