US regulators vow stiffer oversight after SVB, Signature failures

United States regulators have put large banks on notice that tougher oversight is coming, after the Federal Reserve and Federal Deposit Insurance Corp issued detailed reports on what went wrong and where their supervisors came up short in the run-up to the two biggest bank failures since the Great Financial Crisis.

On Friday, the US Fed issued a detailed and scathing assessment of its failure to identify problems and push for fixes at Silicon Valley Bank before the lender’s collapse and promised tougher supervision and stricter rules for banks.

“SVB’s failure demonstrates that there are weaknesses in regulation and supervision that must be addressed,” Barr said in a letter accompanying a 114-page report supplemented by confidential materials that are typically not made public.

“Our first area of focus will be to improve the speed, force, and agility of supervision,” he said. “Our experience following SVB’s failure demonstrated that it is appropriate to have stronger standards apply to a broader set of firms.”

Shortly after the release of the Fed’s report, the FDIC delivered a 63-page account of its failings in the collapse of New York-based Signature Bank and those of its management, to fix persistent weaknesses in liquidity risk management and overreliance on uninsured deposits. Both SVB and Signature failed last month.

“In retrospect, the FDIC could have acted sooner and more forcefully to compel the bank’s management and its board to address these deficiencies more quickly and more thoroughly,” it said.

Both reports said the banks’ managers were primarily to blame for prioritising growth and ignoring basic risks that set the stage for the failures.

And while they both identified supervisory lapses – the Fed’s report was particularly scathing – both stopped short of laying the responsibility for the failures at the feet of any specific senior leaders inside their oversight ranks.

Poor management

While it was the regional bank’s own mismanagement of basic risks that was at the root of SVB’s downfall, the Fed said, supervisors of SVB did not fully appreciate the problems, delaying their responses to gather more evidence even as weaknesses mounted, and failed to appropriately escalate certain deficiencies when they were identified.

At the time of its failure, SVB had 31 unaddressed citations on its safety and soundness, triple what its peers in the banking sector had, the report said.

One particularly effective change the Fed could make on supervision would be to put mitigants in place quickly in response to serious issues on capital, liquidity or management, a senior Fed official said.

Increased capital and liquidity requirements also would have bolstered SVB’s resilience, the Fed added.

Barr said as a consequence of the failure, the central bank will re-examine how it supervises and regulates liquidity risk, beginning with the risks of uninsured deposits.

It also said it would look at tying executive compensation to management’s addressing of supervisory weaknesses.

Before the twin failures in March, banking regulators had focused most of their supervisory firepower on the very biggest US banks that were seen as critical to financial stability.

The Fed’s report signalled that it will look to subject banks with more than $100bn in assets to stricter rules.

Regulators shut SVB on March 10 after customers withdrew $42bn on the previous day and queued requests for another $100bn the following morning.

The historic run triggered massive deposit outflows at other regional banks that were seen to have similar weaknesses, including a large proportion of uninsured deposits and big holdings of long-term securities that had lost market value as the Fed raised short-term interest rates.

New York-based Signature Bank failed two days later. Its failure, the FDIC said in its report which was released also on Friday, was caused by “poor management” and a pursuit of “rapid, unrestrained growth” with little regard for risk management.

Just as critically, the FDIC said it did not have enough staff to do the work of supervising the bank.

Since 2020, an average of 40 percent of positions in the FDIC’s large bank supervisory staff in the New York region were vacant or filled by temporary employees, the report said.

Signature lost 20 percent of its total deposits in a matter of hours on the day that SVB failed, FDIC Chair Martin Gruenberg has said.

Similar to SVB, Signature examiners reported weak corporate governance practices and failures by bank management to address shortcomings identified by supervisors, including the firm’s reliance on uninsured deposits.

Change in supervisory practices

The realisation that smaller banks are capable not only of causing ructions in the broader financial system but of doing it at such speed has forced a rethink.

“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,” Barr said. “Weaknesses in supervision and regulation must be fixed.”

In its report, the Fed said that from 2018 to 2021, its supervisory practices shifted and there were increased expectations for supervisors to accumulate more evidence before considering taking action. Staff interviewed as part of the Fed’s review reported pressure during this period to reduce burdens on firms and demonstrate due process, the report said.

From 2016 to 2022, as assets in the banking sector grew 37 percent, the Fed’s supervision headcount declined by 3 percent, according to the report.

As SVB itself grew, the Fed did not step up its supervisory game quickly enough, the report showed, allowing weaknesses to fester as executives left them unaddressed, even after staff finally did downgrade the bank’s confidential rating to “not well-managed”.

While the fallout from the failures of SVB and Signature has slowed, some firms are still feeling the effects. San Francisco-based First Republic Bank is struggling for survival after reporting this week that its deposit outflows after the SVB and Signature collapses exceeded $100bn.