As the US banking sector licks its wounds after the collapse of Silicon Valley Bank (SVB) and Signature Bank, regulatory and legislative responses seem inevitable – with implications that extend beyond the regional banks.
After the deregulation of financial services in 2018 by the administration of president Donald Trump, which raised the threshold for more stringent regulation from $50 billion to $250 billion, it is very likely that higher capital requirements will be coming for regional banks, as well as the application of many other regulatory measures that are currently limited to those banks deemed most systemically important – the global systemically important banks (G-Sibs).
Despite the previous deregulation, the US Federal Reserve still had a lot of leeway on how to apply rules to banks, but opted for a lighter touch with SVB.
On the regulatory side, lawyers expect to see a reactive look at how to handle banks with similar business models and at other regional banks such as PacWest, Western Alliance, Bridge Bank and First Republic Bank, which have faced stock market nervousness or rating outlook changes since SVB’s collapse.
On March 14, the Fed announced that its vice-chair for supervision, Michael Barr, was leading a review of the supervision and regulation of SVB, to be released on May 1. This could bring in changes not just to the rules that are currently in place, but also to the enforcement agencies and overseers.
New financial services bill
As well as a regulatory review, changes are set to come from Congress. US president Joe Biden has already called on the legislature to take another look at how financial services are treated, and this review is expected to lead to much more wide-ranging changes for banks of all sizes.
“We will probably see an omnibus bill from Congress with bipartisan support – no one is going to mind taxing the banks,” says one ex-Fed regulation lawyer based in New York.
The bill is not expected to be as large or expansive as the Dodd-Frank regulatory legislation of 2010, but rather focus firmly on banking. However, it could mark an opportunity for issues such as digital assets to be brought into the regulatory remit.
It's just onerous to continuously adapt your business and work with constantly changing regulations
Before that, however, it is the treatment of interest-rate risk for regional banks that is likely to be at the top of the legislative agenda, according to Adrian Docherty, head of bank advisory at BNP Paribas.
Most other Basel signatories have interest rate risk in the banking book (IRRBB) requirements in place for all banks. The US, however, has looser requirements for smaller banks, meaning that SVB did not have to address the interest rate risk that eventually led to its collapse.
“The decision by the US authorities not to implement Basel IRRBB standards for all banks must surely be in the spotlight now,” says Docherty.
Many of the expected changes in any bill will be in the area of crisis management, according to the ex-Fed lawyer, including an increase in the threshold for insured deposits from $250,000 to $500,000.
One of the changes that could hit bigger banks the most from all this would be an increase in the Deposit Insurance Fund (DIF). As it stands, the DIF is around $125 billion. The SVB collapse has opened the debate over whether this is enough – SVB had $175 billion in deposits at the end of 2022.
“The knock-on effect is that big banks will end up paying for this,” says the lawyer.
Banks are assessed proportionately on how much they have to contribute to the DIF, so if it is raised from $125 billion to $200 billion, or even $500 billion, larger banks who have to pay more will feel it. Customers, inevitably, will bear the pain eventually.
There could also be exemptions brought into the Federal Deposit Insurance Act, which could allow for depositors to take out more than the insured limit (currently $250,000) for essential activities such as payroll.
With bills also pending in Congress on the treatment of digital assets, such as the Lummis-Gillibrand bill, it is likely a new financial services bill would include rules on the treatment of crypto and digital assets.
“If Congress is going to write a financial services bill for banks, especially as it’s responding to a crisis generated in the tech and venture capital sector, crypto is definitely going to be included,” says the lawyer.
Blame game
Despite the inevitable policy response, it will not necessarily be popular. Many observers would have just begun to think regulation was becoming more stable, so the uncertainty that would come with another round of changes will be a pain point for banks.
“It's just onerous to continuously adapt your business and work with constantly changing regulations,” says BNP Paribas’ Docherty.
[The Fed is] like a bank guard asleep on the job with headphones on during a robbery
For many, a better reaction would be to target specifically what went wrong rather than bring in wide-reaching changes. The problem is that there are a lot of concerns vying for the title of ‘what went wrong’.
For many people, the point is not the rules under which SVB was operating, but the bank’s management.
“This is risk management 101,” says Docherty. “Don’t put all your eggs in one basket.”
SVB’s management broke rules and did not address them, say its critics. But at the same time, its positions were not hidden. Short-sellers, ratings agencies and analysts saw this coming; SVB’s interest rate risk was being reported in the media as early as November 2022.
“I was most surprised that the Fed didn’t see this coming,” says Nicolas Véron, senior fellow at Bruegel and the Peterson Institute for International Economics.
Dennis Kelleher, CEO of advocacy group Better Markets, is more damning on the supervisor, describing the Fed as “like a bank guard asleep on the job with headphones on during a robbery”.
He adds: “The Fed has much more and superior knowledge, information, expertise and access to banks than short-sellers, rating agencies and the media, yet they all appear to have done a much better job at identifying the very serious risks at SVB than the Fed.”
Unfortunately, for those banks that may have done nothing wrong but which may still have to face tougher regulation or continuing greater regulatory changes, a response from regulators and policymakers in the US is doubtless coming.
All eyes will be on the Fed’s report to see what shape that response will take.
Further afield
It is not the just the US that could see changes. The UK moved quickly by orchestrating the sale of SVB’s UK arm to HSBC on March 13, using the 2009 Banking Act’s Special Resolution Regime (SRR) for the first time.
While the sale marked a successful first use of the SRR, questions have been raised over how effective this legislative tool would have been had the bank in need been much larger than SVB UK.
Such questions have only been exacerbated by the situation with Credit Suisse, which was forced into a merger with UBS over the weekend of March 19/20.
It is far from certain that the buyer of an institution of that size could have been found in a weekend in the UK, despite the tools available under the SRR.
In Europe, officials have downplayed contagion risks. But on the crisis management side, there could still be changes afoot in regulation already under development.
The European Commission was expected to publish its proposals on crisis management and deposit insurance early in March. A vague proposal had been released that praised the US system for its deposit insurance and suggesting a similar approach.
“The US system doesn’t look so great now, so it will be interesting to see how the EU responds,” says Véron.
