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Fed Slams Its Own Oversight of Silicon Valley Bank in Post-Mortem

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WASHINGTON — The Federal Reserve on Friday faulted itself for failing to “take forceful enough action” to address growing risks at Silicon Valley Bank ahead of the lender’s March 10 collapse, which raised turmoil across the global banking industry.

A sweeping — and highly critical — review conducted by Michael S. Barr, the Fed’s vice chair for supervision, identified lax oversight of the bank and said its collapse demonstrated “weaknesses in regulation and supervision that must be addressed.”

“Regulatory standards for SVB were too low, the supervision of SVB did not work with sufficient force and urgency, and contagion from the firm’s failure posed systemic consequences not contemplated by the Federal Reserve’s tailoring framework,” Mr. Barr wrote in a letter accompanying the report.

The review spanned hundreds of pages and painted a picture of a bank that grew rapidly in size and risk with limited intervention from supervisors who missed obvious problems and moved slowly to address the ones they did recognize. And it outlined a range of potential changes to bank oversight and regulation — from stronger rules for midsize banks to possible tweaks to how deposits over the $250,000 federal insurance limit are treated — that the Fed will consider in response to the disaster.

The post-mortem is a rare instance of overt self-criticism from the Fed, and it comes as the aftershocks of Silicon Valley Bank’s collapse continue to shake the American financial system. First Republic Bank, a regional lender that required a cash infusion from other large banks as nervous customers pulled their deposits and fled, remains imperiled.

Mr. Barr, a major architect of intensified bank regulations in the wake of the 2008 crisis, was nominated to his current job by President Biden. His review was announced on March 13, just after Silicon Valley Bank’s failure and the government’s sweeping announcement on March 12 that it would protect the bank’s large depositors, among other measures to shore up the banking system.

The federal government also shuttered Signature Bank that weekend. The Federal Deposit Insurance Corporation, which was the firm’s primary supervisor, released a separate report Friday.

Its report criticized the lender’s “poor management” and pursuit of “rapid, unrestrained growth” without sufficient risk policing. The regulator also acknowledged its own shortcomings in communicating with bank management about examination results and other supervisory issues. The F.D.I.C. cited staffing shortages in its New York office as one reason communication “was often not timely.”

Attention has focused heavily on what went wrong at Silicon Valley Bank, both because it crashed first and because its weaknesses had accumulated and worsened in plain sight.

The bank had a large share of deposits above the government’s $250,000 insurance limit. Uninsured depositors are more likely to pull their money at the first sign of trouble to prevent losing their savings. The bank’s leaders also made a big bet on interest rates staying low, which turned out to be a bad one as the Fed raised them rapidly in a bid to control inflation. That left the bank facing big losses and helped to bring it to its knees — leading to a rapid failure that spooked depositors at other banks across the country.

“Contagion from the failure of SVB threatened the ability of a broader range of banks to provide financial services and access to credit for individuals, families and businesses,” Mr. Barr said.

Mr. Barr took office in July — toward the end of SVB’s life. Given that, much of his review reflected on supervision under his predecessor, Randal K. Quarles, the Trump-appointed vice chair for supervision in that office from 2017 to October 2021.

The report itself was produced by regulatory and financial experts within the Fed system who were not involved in the bank’s oversight. They had full access to supervisory documents and internal communications, and had the ability to interview relevant Fed staff, according to the release.

“It’s a very productive first step in trying to understand both why Silicon Valley Bank failed and the significant supervisory shortcomings that contributed to that failure,” Kathryn Judge, a financial regulation expert at Columbia Law School, said of the review. “What we are seeing is an overall framework that was too slow, too weak and understaffed.”

The findings suggested that Fed supervisors flagged some issues at the bank, but did not catch them all or follow up intensively enough. For example, the bank’s management was rated satisfactory from 2017 through 2021 despite the firm’s obvious risk-taking.

Silicon Valley Bank had 31 open supervisory findings — which flag issues — when it failed in March, about three times the number at its peers, based on the Fed’s report.

The review said it was hard to identify precisely what had caused the foot-dragging, but it pointed to a culture that focused on consensus and to supervisory changes that happened during the Trump administration and under Mr. Quarles.

“Staff felt a shift in culture and expectations from internal discussions and observed behavior that changed how supervision was executed,” the report said.

Even as Silicon Valley Bank expanded and amassed bigger risks, resources dedicated to its oversight declined, the report said: Scheduled hours dedicated to the firm’s supervision fell more than 40 percent from 2017 to 2020. Resources dedicated to bank oversight across the Fed system also lagged. From 2016 to 2022, head count in the Fed system’s supervisory staff fell even as banking sector assets grew considerably, the report said.

Mr. Barr raised a number of immediate considerations that should be focused on — and changes that should be made — in the wake of Silicon Valley Bank’s collapse.

He highlighted that social media and technology “may have fundamentally changed the speed of bank runs.” And the regulatory and supervisory tweaks Mr. Barr suggested included a renewed look at how the Fed carries out oversight for banks of different sizes.

The Fed will re-evaluate a range of rules for banks with $100 billion or more in assets, for which the rules were relaxed during the Trump administration, the report said. Such banks had been granted looser oversight because they were not deemed “systemic,” but the collapse of Silicon Valley Bank has underlined that even smaller banks can have big implications.

Banks with bad capital planning, risk management and governance could also face “additional capital or liquidity beyond regulatory requirements,” the report said, suggesting that “limits on capital distributions or incentive compensation could be appropriate and effective in some cases.”

And Mr. Barr’s overview suggested that a broader set of banks should take into account gains or losses on their security holdings when it comes to their capital — money that can help a bank get through a time of crisis. That would be a major departure from how the rules are currently set, and Mr. Barr underlined that changing such standards would require a rule-making process that would take time.

“I agree with and support” the “recommendations to address our rules and supervisory practices, and I am confident they will lead to a stronger and more resilient banking system,” Jerome H. Powell, the Fed chair, said in a release accompanying Mr. Barr’s report.

Some Republicans blasted the push for tougher regulation, saying the bank’s failure stemmed from poor risk management.

Calling the report “self-reflecting, revisionist and sanctimonious,” Representative Andy Barr, a Kentucky Republican, said in a statement that “the Fed is calling for more stringent capital and liquidity requirements that will not fundamentally address the failure of financial institutions to manage their interest rate risk.”

The review stopped short of outright finger-pointing. It did not directly name individuals who had failed to properly account for risks in the case of Silicon Valley Bank, instead focusing on weaknesses in the overall system of regulation and supervision.

That drew some pushback. Jeff Hauser, director of the Revolving Door Project, said that the report surpassed his lowest expectations, but that he was disappointed by the lack of names. He said Silicon Valley Bank’s collapse should be reviewed by an outside body that might feel more free to be critical.

“The need to an independent review could not be more clear,” Mr. Hauser said. “This is not what accountability looks like.”

The Fed’s Mr. Barr suggested that he would be open to such a follow-up.

“We welcome external reviews of SVB’s failure, as well as congressional oversight, and we intend to take these into account as we make changes to our framework of bank supervision and regulation,” he said in his statement.

Alan Rappeport contributed reporting.

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