Here’s what the SVB report will (and won’t) include, according to top former Fed official

By Elisabeth Buchwald, CNN

On Friday, the Federal Reserve is set to release the findings of its investigation into what caused Silicon Valley Bank to collapse last month.

Randal Quarles, former vice chair of supervision at the Fed, told CNN in an exclusive interview that he doesn’t expect the report to uncover any smoking guns.

The bank’s failure, the second-biggest in US history, sent ripples throughout the global banking system. Regional banks are still reeling from the crisis after depositors fled to the nation’s largest banks.

Michael Barr, who succeeded Quarles as the Fed’s top banking regulator, told lawmakers in testimony last month that SVB’s failure was “a textbook case of mismanagement.”

When the economy sprang back during the pandemic, SVB experienced an influx of deposits from its clients who mainly worked in tech and venture capital. The bank invested that cash in longer-term securities such as bonds. But SVB failed to “effectively manage the interest rate risk of those securities or develop effective interest rate risk measurement tools, models, and metrics,” said Barr.

There are still many unanswered questions about the bank’s implosion including what, if anything, could have been done to prevent it.

“It will identify a number of things that need to be looked at without really having final recommendations,” since the authors of the report were given a tight deadline, said Quarles.

Revisiting bank capital and liquidity requirements

Barr said in his testimony that the report will review “SVB’s growth and management, our supervisory engagement with the bank, and the regulatory requirements that applied to the bank.”

In 2021, SVB graduated from being classified as a regional banking organization, or RBO, to a large and foreign banking organization, or LFBO, due to its rapid asset growth. Compared with RBOs, LFBOs are supervised more closely and regularly, and they have stricter capital and liquidity requirements. But their requirements and supervisory oversight are looser compared with global systemically important banks, or G-SIBs, such as JPMorgan Chase, Bank of America and Citibank.

Quarles, who led the Fed’s banking supervision arm from 2017 to 2021 and co-founded The Cynosure Group, a private equity firm, said the report will likely hint at or formally propose more restrictive banking regulation without outlining specifics.

In particular, he thinks there will be a lot of discussion around rolling back rules that allowed banks the size of SVB to skirt certain capital and liquidity requirements they had been subjected to before 2019.

For instance, SVB was able to opt out of holding capital against its unrealized investment losses. It also wasn’t required to hold high-quality liquid assets to fund expected cash outflows for 30 days, known as a liquidity coverage ratio.

In Quarles’ view, returning to the pre-2019 requirements “would not have made any difference” in preventing SVB from failing. The real issue that the Fed’s report should address, he said, is why SVB’s uninsured depositors were so quick to flee.

“That generally doesn’t happen, that somebody’s willing to do all of that because of something they read on Twitter during the day. That happened here.”

Report could shift blame to Fed regulators, supervisors

Barr told lawmakers that staff working on the report will be doing a “self-assessment” to uncover whether any Fed supervisors or regulators are at fault. Quarles said he thinks regulators like himself and supervisors could get some of the blame for SVB’s failure. But he said supervisors, in particular, should not get thrown under the bus.

“If you drop an apple into the garbage can and it flies up to the ceiling and breaks a light, you’re not going to criticize the person who dropped the apple for being careless and breaking the light — the apple was supposed to fall into the garbage can.”

It’s possible that the report will recommend changing the process for elevating issues supervisors identify up the chain of command.

That’s why Quarles said he didn’t hear about the red flags Fed officials identified when he was vice chair for supervision. More importantly, Barr, who took office in July 2022, told lawmakers he “first learned about the issues at Silicon Valley Bank with respect to interest rate risk in mid-February of 2023,” just weeks before the bank collapsed.

The-CNN-Wire
™ & © 2023 Cable News Network, Inc., a Warner Bros. Discovery Company. All rights reserved.