[Bank overseers published a 2018 report with a major red flag
about Silicon Valley Bank — and then they ignored it.]
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DOCUMENT SHOWS REGULATORS KNEW OF SVB RISK FIVE YEARS AGO  
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David Sirota, Julia Rock
March 20, 2023
The Lever
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_ Bank overseers published a 2018 report with a major red flag about
Silicon Valley Bank — and then they ignored it. _

Security guards let individuals enter the Silicon Valley Bank's
headquarters in Santa Clara, Calif., on March 13, 2023., AP Photo/
Benjamin Fanjoy, File

 

As lawmakers look for clues about the corporate and regulatory
failures at the root of the current bank crisis, a little-noticed
report from the government’s top regulators could be one of the
smoking guns. It shows that years before customers tried to flee
Silicon Valley Bank (SVB) en masse, leading to its collapse,
regulators knew that the nature of the bank’s deposits made it
especially susceptible to such bank runs.

And yet despite that risk, no evidence has surfaced showing regulators
did anything to reduce it. Instead, the Federal Reserve soon after
approved SVB’s merger, declaring
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the bank would not “pose significant risk to the financial system in
the event of financial distress.”

Less than two years after that, regulators announced they would be
bailing out the bank’s uninsured depositors.

The warning sign came five years before that bailout. It was July
2018, just after President Donald Trump
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back the Dodd–Frank Wall Street Reform and Consumer Protection Act,
passed after the financial crisis to improve oversight of banks. At
the time, the Financial Stability Oversight Council (FSOC), set up by
Dodd-Frank to identify risks to the financial system, published a
list
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major mid-sized banks and their levels of deposits with no federal
insurance. If these banks were to fail, the uninsured deposits would
not be accessible to the depositors.

One financial institution stood out for having far more uninsured
deposits than all the others: Silicon Valley Bank, where more than 90
percent of the deposits were uninsured. In comparison, on average, the
other mid-sized banks had 44 percent of their deposits uninsured.
(Today, uninsured deposits constitute
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than $8 trillion — about 40 percent — of all bank deposits.)

Third on the list for most uninsured deposits was First Republic Bank,
which had 67 percent of its deposits uninsured. Last week, shortly
after SVB’s collapse, large banks deposited $30 billion
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First Republic amid a run on its deposits, in an attempt to prevent
another bank failure.

FSOC Study of Uninsured Deposits at Mid-Sized Banks in 2018
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The list was part of a report that the council — composed of top
officials at the Treasury Department, Federal Deposit Insurance
Corporation (FDIC) and Federal Reserve — had published about its
decision to remove its “systemic risk” label from a different
mid-sized bank.

In the same report, the council warned that uninsured deposits are at
a much higher risk of bank runs than insured deposits.

“FDIC-insured deposits and uninsured deposits have different degrees
of risk, and therefore would generally be subject to runs of different
severity,” the report says. “If a bank were to experience material
financial distress, FDIC-insured deposits would be expected to run at
a considerably lower rate than uninsured deposits.”

According to the report, a 2018 paper
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that, “at one banking institution, in a context of significant
bank-specific distress, uninsured deposit accounts liquidate at a rate
92 percent faster than other accounts. The authors determined that
their findings generalize to other banks.”

And yet despite that acknowledgement, regulators appeared to take no
action to force SVB to mitigate the risk posed by its high proportion
of uninsured deposits, nor to subject the bank to enhanced
supervision. “If examiners believe banks are operating in an unsafe
and unsound manner, they can use their prompt corrective action
authority to impose significant remedies on banks,” said Todd
Phillips, a former attorney at the FDIC. Regulators could have
required SVB to hedge against the risk posed by rising interest rates,
or increase its cash reserves, for example.

Outside experts say high proportions of uninsured deposits are a major
bank-run risk factor that should have prompted the council to take
regulatory action.

“Having high levels of uninsured deposits should have been a risk
that examiners identified,” said Phillips. “As we saw, SVB’s
uninsured depositors ran when the bank got into trouble. Going
forward, supervisors need to be cognizant of this risk and require
banks to diversify their deposit base.”

Cornell University law professor Robert Hockett agreed. “Even after
the 2018 rollback of Dodd-Frank, this would have been something that
any sensible prudential regulator…would flag and then follow-up
on,” said Hockett. “It is the quintessential risk for an
institution of this type, going back even before the old ‘tulip
crisis’ in Amsterdam centuries ago.”

_DAVID SIROTA. Founder/editor in chief, The Lever; Oscar nominated for
DON'T LOOK UP; Bernie Sanders' presidential campaign speechwriter in
2020._

_JULIA ROCK. Staff reporter for The Lever._

_THE LEVER, formerly known as The Daily Poster, is a
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* Silicon Valley Bank
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* FSOC
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* Dodd-Frank
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* federal oversight
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* big banks
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