Silicon Valley Bank (SVB) failed due to a perfect storm of incompetent management, insufficient supervision and weak regulations, the Federal Reserve said in a report Friday.
The autopsy attempts to explain how federal regulators failed to prevent the second-largest bank collapse in U.S. history, which prompted a banking crisis that has boosted the odds of a recession.
“Following Silicon Valley Bank’s failure, we must strengthen the Federal Reserve’s supervision and regulation based on what we have learned,” said Michael Barr, the Fed’s vice chair for supervision, who led the internal probe.
SVB failed to manage risk
The Fed wrote that SVB’s downfall can be traced to “widespread managerial weaknesses” and its reliance on uninsured deposits from tech and venture capitalist clients.
That left the bank “acutely exposed to the specific combination of rising interest rates and slowing activity in the technology sector,” the Fed wrote in its report.
When the Fed hiked interest rates, SVB’s long-term treasury bond holdings lost value, leaving the bank with huge unrealized losses. That made it difficult for SVB to deal with a slowdown in deposits driven by the tech sector’s troubles.
When SVB’s tech-dominated depositors got wind of the bank’s struggles, they coordinated the first online bank run, withdrawing $40 billion in a day. Regulators swiftly shut SVB down and later guaranteed uninsured deposits to prevent additional bank runs.
“Silicon Valley Bank managed interest rate risks with a focus on short-run profits and protection from potential rate decreases, and removed interest rate hedges, rather than managing long-run risks and the risk of rising rates,” the report noted.
Supervisors didn’t act quickly enough
The report found that SVB got strong ratings from supervisors even as its balance sheet ballooned from $71 billion to $211 billion over two years and despite “repeated observations of weakness in risk management.”
Supervisors identified SVB’s “interest rate risk deficiencies” as far back as 2020. But they didn’t issue a finding on it until November 2022. SVB went under before supervisors downgraded the bank.
Fed regulations were too weak
Former President Trump in 2018 signed a bipartisan bill to loosen regulations on midsize banks such as SVB, which had lobbied lawmakers to implement weaker standards. The law exempted those banks from stress tests and capital requirements aimed at preventing a failure.
Under the law, the Fed had the ability to implement stronger standards on banks like SVB, but it did not. Republicans in Congress and bank lobbyists pushed the Fed to keep the standards narrowly tailored to the biggest banks.
“While higher supervisory and regulatory requirements may not have prevented the firm’s failure, they would likely have bolstered the resilience of Silicon Valley Bank,” the report found.
The report noted that around the same time, Fed policy “placed a greater emphasis on reducing burden on firms” by heightening the burden of proof on supervisors to go after banks.
“Although the stated intention of these policy changes was to improve the effectiveness of supervision, in some cases, the changes also led to slower action by supervisory staff and a reluctance to escalate issues,” the Fed wrote.