SVB Failed—and So Did the Feds

The bank’s collapse gave policymakers the chance to show that our financial system is functioning as it should.

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Security guards and FDIC representatives open a Silicon Valley Bank branch for customers at SVB headquarters in Santa Clara, California, on March 13, 2023. (Photo by Noah Berger/AFP/Getty Images.)

On Sunday night, the Treasury, Federal Reserve, and FDIC declared Silicon Valley Bank (SVB) a systemic risk and announced that the federal government would backstop the bank’s customers, allowing them full access to their deposits as of Monday morning. The failure of SVB, which was the 16th largest bank in the U.S., was the first real test of the post-financial crisis regulations put in place under Dodd-Frank to ensure the financial system could withstand the failure of a large bank without spurring contagious bank runs or requiring extraordinary government intervention. 

We flunked the test.

We didn’t have to. 

SVB’s failure was the perfect opportunity for policymakers to reassure financial markets and the public that our financial system is functioning exactly the way that it should. The U.S. economy is better off with a variety of well-capitalized banks of different sizes with diverse strategies, some of which specialize in a given sector, region, or client type. A bank’s strategy being successful is good for its investors and customers. When its strategy is unsuccessful, the bank should fail, its insured depositors made whole immediately, and its uninsured depositors made whole when the bank or the bank’s assets are sold.

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  1. Avatar photo
    Jsmrao14

    I was originally somewhat supportive of what the government did in response to the crisis and disagreed with this take, but after letting some time pass and reading more about SVB's collapse, I am more in agreement with your argument. I think the government overreacted.

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    PaulH

    An under-reported aspect of the bailout is that there was apparently a bank that was interested in purchasing SVB over the weekend. The treasury and the fed favored this approach but apparently the head of the FDIC nixed the idea because he is hostile to big bank mergers. If this is true, it is a tremendous missed opportunity. An acquisition of SVB by a larger bank would have had the same stabilizing effect as a bailout without the moral hazard issue.

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  3. Andrew W.

    The biggest issue is that there is an enormous federal infrastructure for bank (and other lending entities) regulation. There are close to a dozen separate entities that have oversight power over lenders. The issue with SVB was not a complex, unknown one. It is literally one of the first things taught to college finance and accounting majors. Lenders' assets should be roughly maturity/duration/convexity matched to their liabilities. Anyone looking at SVB's balance sheet would have known immediately that wasn't the case. There did not seem to be any material hedging schemes in place notwithstanding the fact that everyone in finance understands that the value of fixed income assets decreases (often substantially) in a rising rate environment. As soon as the Fed started raising rates, losses on long-dated fixed income securities were destined. Again, this is Finance 101. While SVB management is certainly the culprit here, we are again at a point where it's important to ask why we have such an enormous (and complex) regulatory framework when nothing of substance seems to actually occur. Do we need the Fed, the FDIC, the Comptroller of the Currency, the SEC, the FSLIC, the CFPB et al. entirely duplicating efforts yet doing nothing? And make no mistake, this isn't only the truth in financial regulation, it's across the board.

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    1. Cbohanon

      And so the call will be for "more regulation" I don't get it, but I do!

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    2. Georges

      My sentiments too: very basic errors by SVB mgt and multiple regulatory agencies that should have noticed but did not or took no action. Arghhh.

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      Show Jay Janney the 🚪!

      The Fed signaled rate increases were coming. SVB should have exited long-term treasuring before rates crossed 2%. They still would have had a loss, but a much more modest one, one IMHO they would have easily survived. The truth of the matter is their investment management sucked.

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  4. Nordic_man

    I mean yes, but no. Yes all of this is true, but you seem to miss how people and democracy work. This is another case of “if only we had a right wing philosopher king”

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    1. CatoTheElder

      Not quite. You rightfully pointed out to me yesterday the necessity of dealing with an irrational and complex reality that isn’t fully apprehended and dealt with by rules strictly adhered to. But here you doth protest too much, and inappropriately characterize the author as missing “how people and democracy work”. The author neither supposes nor advocates for a “right wing philosopher king”, nor does he give evidence of failure to understand democracy. Whether he understands how people work can be argued, but those doing the arguing should be alerted to the fact that very few people, if any, actually well and fully understand how people work.

      It’s been said that all absolute statements, including this one, are incorrect. A hard-core Austrian-American capitalism approach can be construed as a statement of and advocating for absolutism in matters such as these. I think it wise and prudent to blend that with a bit of grace, empathy, and heart, this all being itself done in a wise and prudent manner.

      That said, there is a real and common risk of going too far out on the branch of grace, empathy, and heart, and counter-balancing with reference to the ideal is appropriate. It should also always be recognized that when the (allegedly) carefully designed and implemented rules and regulations do not suffice to give involved actors appropriate means for dealing with catastrophe, such as, in this case, a bank failure (or two), respect for common notions of justice and equality require acknowledgement that extra-legal interference should be a rare bird, and as constrained in its actions and effects as possible, consistent with the needs of the moment.

      There is, and justifiably so, a common understanding that the wealthy and powerful play by different rules than do the rest of us. Coincident with that is a widespread suspicion that interference with the outcomes of markets—which is what we are witnessing—is something nearly always done when the rich want (and say they need) it, and very nearly only done when the rich want (and say they need) it. How much this is true in the current circumstances isn’t clear; reports seem, if not conflicting, at least headed that way.

      I find that people both learn best from experience—for some, there is no other teacher—and when experience is consistent with prediction and expectation. When we muck with these, we disrupt both individual and social learning, and increase future uncertainty and, as they say, moral hazard.

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      1. Nordic_man

        I agree with all of this. I just feel like these articles that essentially explain “in a perfect world we would have done X” (which though the author didn’t say in a perfect world he didn’t exactly come down into the mud of reality) is that they are useless when it comes to what we could actually do better given the constraints, irrationalities, and pressures inherent in a democracy. This article screams “if only we had a politician who would do what we all know is right even when their constituents are saying the opposite”. Sure that would be great, but welcome to reality

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    Robert Knudson

    This.

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    Poliorcete

    There was also a dramatic lack of basic risk management by businesses. This is literally what CFO is supposed to be prepared for.

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      PaulH

      And, even more so, the risk management officer -- a post which was vacant ant SVB for much of last year.

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    George.Skinner

    I think Nick Catoggio had a good response to this line of criticism: SVB had made mistakes with their capital, but the primary issue was a panic causing a run on the bank. Panic isn't rational, and tends to be contagious and self-reinforcing. Instead of letting SVB collapse and "showing that the financial system is functioning as it should", there's a considerable risk that we'd discover the system as constructed is still deeply vulnerable to bank runs and panics for the mid-size banks where a great many businesses conduct their banking.

    I get the ideological argument and the caution against moral hazard, but they're going to require more elaboration into an approach that sufficiently safeguards the functioning of a critical part of the economy.

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    1. Wsampson

      I think the fed had to act and would like to see pain for the execs that sold stock and paid bonus days before. Might have been better to backstop at 70 cents on the dollar so the poor choices made by depositors was also penalized

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        PaulH

        The interesting thing is that from what I have read, it was likely the depositors would get back closer to 90 cents on the dollar.

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    2. Compost King

      Exactly. I think the author discounts the panic factor too much. "While some other banks may have come under pressure..." There's no 'may' about it. One of the articles I read listed over a dozen regional banks whose stock had to stop being traded because they were falling so fast.

      If people would just wait patiently until the assets could be sold... but who is going to buy those assets? Other banks. And if there's a panic and businesses start pulling their money out of the regional banks, those banks are going to hoard cash. The biggest banks would have an influx of deposits and would buy up the SVB assets, so the 'too big to fail' banks get bigger and regional banks get smaller. Not a good outcome.

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        PaulH

        But there are other ways of dealing with the panic factor. For example, the Fed added or expanded a loan facility that allows banks to borrow against the securities they hold. That allows banks to address liquidity issues caused by withdrawals without recognizing losses on the sales of securities.

        I am not sure that stock prices dropping is something the government needs to be concerned about; prices will adjust (as they have today). The real focus should be on preventing bank runs.

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    Ben Connelly

    I am so glad the Dispatch published this article! It warms the coddles of my cold, young heart. This bailout only makes the next bailout more likely and eventually we run the risk of a catastrophe so great it can’t be bailed out.

    “SVB’s failure was the perfect opportunity for policymakers to reassure financial markets and the public that our financial system is functioning exactly the way that it should. The U.S. economy is better off with a variety of well-capitalized banks of different sizes with diverse strategies, some of which specialize in a given sector, region, or client type. A bank’s strategy being successful is good for its investors and customers. When its strategy is unsuccessful, the bank should fail, its insured depositors made whole immediately, and its uninsured depositors made whole when the bank or the bank’s assets are sold.”

    Capitalism is a profit and loss system. It only works when autoregulating processes are allowed to take place. You can’t have creation without creative destruction.

    “ Finally, every time the government determines a bank is too big, too important, too interconnected, or too contagious to fail, it increases the moral hazard in the banking system, leading to calls for new regulations that make it harder for banks to take the kinds of risks that, in good times, pay off for their shareholders, support ecosystems of new firms, and promote the dynamism of the U.S. economy. ”

    Exactly.

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  9. Joe1776

    Have there been smaller banks that have failed and the fed did not break the rules and insure more than the $250k? If that is the case, is the government saying we should all use the largest banks possible because we will get special treatment? Maybe the government could decide not to tax the smaller banks that they would not bail out. It seems cruelly unjust to force smaller banks to pay a fee to insure their competition when they don't get the benefits of that insurance.

    Also is this going to influence the feds decision to raise interest rates to try to curb inflation?

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    DougAz

    https://www.nytimes.com/2023/03/13/opinion/elizabeth-warren-silicon-valley-bank.html?smid=url-share

    Senator Elizabeth Warren is absolutely 100% correct.

    Republicans and Trump bear large responsibility for weakening Dodd-Frank.

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      Martin Hernandez

      It gets brought up but I’m not sure how a beefier D-F would’ve prevented this. D-F gets a lot of press but most of it is about establishing whistleblower protections, minority protections and a bunch of rules regarding derivatives and such. She’s a peach though!

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        DougAz

        I commented below that the 2018 modification increased the mandatory stress testing level of deposits, so that Banks like SVG flew under the radar.

        Secondly, eh hmm, the Regulators would have needed to have been more active with banks. But the Trump administration doesn't fill those jobs, and puts in lax and slow moving leaders to just make government oversight ineffective.

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      PaulH

      Actually, it is not clear that anything Senator Warren proposed would have prevented this. But it is opportune posturing by her.

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        DougAz

        On March 14, 2018, the Senate passed the Economic Growth, Regulatory Relief and Consumer Protection Act exempting dozens of U.S. banks under a $250 billion asset threshold from the Dodd–Frank Act's banking regulations. On May 22, 2018, the law passed in the House of Representatives.

        The bank's deposits doubled to $102 billion at the end of 2020 from $49 billion in 2018. One year later, in 2021, it had $189.2 billion in its coffers as start-ups and technology companies enjoyed heady profits during the pandemic

        So yes, Deregulation was a key factor because SVG would have been held to greater fiscal security and testing.

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          PaulH

          Again, it is not clear that anything in the bill would have prevented the SVB's issues. SVB was already subject to stress testing and regulation by many different authorities. Arguing that "more regulation" would have made a difference is not compelling unless there is something specific that can be pointed to.

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    3. DTruitt

      So do Dems as it was a fully bipartisan vote ... and so your point is?

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      1. Daniel.Rabiner

        So when a few people from the other party vote for a proposal it suddenly means you can't say one party was the main driver of that policy?

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