On March 10, the U.S. suffered its biggest bank failure since the 2008 financial crisis when California’s Silicon Valley Bank collapsed after their tech industry customers — hearing about the bank’s huge losses — panicked and tried to withdraw their money. Although the FDIC intervened and promised depositors they would have access to all their funds, confidence in the financial system was shaken and spread to other banks worldwide.
Days later, a second U.S. regional bank, Signature Bank was shut down. A third, First Republic Bank, was propped up, followed by a threat to the stability of one of the world’s largest banks, Credit Suisse — which was averted after it was taken over by Swiss banking giant UBS with $225 billion in loans from the Swiss government.
Analysts blame a number of factors for these bank failures and lowered confidence in the financial system, including mismanagement, the Federal Reserve’s recent rapid interest rate increases — and the weakening of government regulation. Between The Lines Scott Harris spoke with James S. Henry, a leading economist, attorney, investigative journalist and global justice fellow at Yale University, who examines the systemic causes and remedies available to prevent future bank failures.
JAMES S. HENRY: It was kind of obvious that after more than a decade of easy money that the Federal Reserve would be raising interest rates and they started talking about it middle of last year. But Silicon Valley Bank in particular and also Signature Bank in New York — second and third largest bank failures in history now — basically failed to hedge their loan and their asset portfolios against the likelihood the Federal Reserve would raise rates.
In fact, Silicon Valley Bank didn’t even have a credit risk manager. The Federal Reserve had been in there advising them to get tougher. But, you know, Chairman Jerome Powell of the Federal Reserve has had a light touch when it comes to regulating banks and there weren’t any requirements that Silicon Valley Bank actually, you know, clean up its act.
So, you know, I think that opportunity was missed. We’ve learned that even small banks can be systemic risks here. I mean, Silicon Valley Bank was banking to more than half of the venture startups in the country — (they) were all around this one watering hole.
They basically said 98 percent of the deposits in the bank were uninsured. We’re talking about $175 billion of deposits. And it only took about 8 hours for $42 billion of those deposits to move when they announced that they were having a hard time maintaining capital a couple of weeks ago.
So, you know, I think you could blame the Federal Reserve for raising interest rates. But that’s too general. You know, there’s many specific behaviors at these particular banks that we learn from. In the case of Signature Bank, about a $100 billion bank, they had about $89 billion of deposits. Also uninsured, $15 billion of them were in the form of crypto from depositors whose identities were hard to find.
And so the New York state bank regulators just shut them down. And there’s now a criminal investigation of signature seizures of the banks that had Rep. Barney Frank of the Dodd-Frank bill on its board. You know, Greg Becker, the CEO of Silicon Valley Bank, was on the board of the San Francisco Federal Reserve. These are connected people. And, you know, so it’s just astonishing to me that these simple mistakes of lack of diversification, lack of hedging, ignoring the fact that small banks like this can have a strategic impact on a whole segment of the economy like venture capital.
You know, these basic mistakes were being made. They’re not not fancy mistakes at all.
SCOTT HARRIS: James, I did want to ask you about deregulation under Donald Trump’s presidency. There was a bipartisan move to gut the Dodd-Frank Act — that regulation enacted after the 2008 financial crisis. As you look at that weakening of regulation, is it the congressional role right now to enforce stricter regulations, especially on smaller regional banks? Should that be the course of action going forward, do you think?
JAMES S. HENRY: Well, absolutely. I think, as you know, in 2017 and 2018 under Trump and under Chairman Powell, there was an effort by the Federal Reserve to reduce the stress testing that was going on for banks that were with less than $250 billion of assets in the United States. And that would include both of these two banks that just failed.
You know, the Federal Reserve did show up on an informal basis, consulted with Silicon Valley Bank over the last 18 months and found that they had many shortcomings in their risk management, in their hedging systems. So they basically had no authority to order the bank to do anything. One of the key lessons here is that if you’re a central banker and you’re going to raise interest rates to fight inflation, especially after a long decade of quantitative easing and, you know, kind of loose lending in the economy, you have to realize that many banks have developed very bad habits.
They are dependent on liquidity that you’ve been providing generously and they have been more and more engaged in taking uninsured deposits and investing in all these interest sensitive securities. And so, you know, you really do need, as a counterpart to raising interest rates, much tougher bank regulation so you can anticipate these problems. That’s not something that Chairman Powell was favoring.
And so he got caught out in the situation as been having to play catch up. So, you know, that’s, I think, applicable to both of the bank failures that have already happened and to the regional banks that are also, in many cases, still floundering today. There are several regional banks that are still on the ropes. And we’re watching very closely to see if they’re going to be added to the list.
[Editor’s note: The first bank to fail, cryptocurrency-focused Silvergate Bank, announced on March 8 it would wind down and undergo liquidation procedures due to losses suffered in its loan portfolio.]
Listen to Scott Harris’ in-depth interview with Henry S. James (25:55) and see more articles and opinion pieces in the Related Links section of this page.
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