Banking Regulators Testify before House Financial Services Committee

FDIC Chair Martin J. Gruenberg, Federal Reserve Board ("FRB") Vice Chair for Supervision Michael S. Barr and Treasury Undersecretary for Domestic Finance Nellie Liang testified before the House Financial Services Committee on the Signature Bank and Silicon Valley Bank ("SVB") failures.

House Financial Services Committee Chair Patrick McHenry (R-NC) said that it was clear that the banks were mismanaged and said that now Congress needs insight into banking regulators' decision-making process into the "second and third largest U.S. banks failures." He asked Mr. Barr to detail his "thinking in the key hours of [the] first week in March."

Witness Testimony

In testimony that mirrored previous remarks before the Senate Banking Committee hearing (see here):

FDIC Chair Martin J. Gruenberg said that the FDIC will make public by May 1, 2023 a (i) report from the FDIC Chief Risk Office regarding the FDIC’s supervision of Signature Bank and (ii) comprehensive review of the deposit insurance system, including policy options regarding deposit insurance coverage levels, excess deposit insurance and potential risk-based pricing outcomes.

Mr. Gruenberg said that the common thread behind the banks' failures was their heavy reliance on uninsured deposits. He reported that 90 percent of Signature Bank and 88 percent of SVB deposits were uninsured which increased chances for deposit runs and "contagion effects." Mr. Gruenberg also identified similarities among SVB and Signature, in addition to Silvergate Bank's closure, including (i) the accumulation of losses in the banks’ securities portfolios and (ii) unrealized losses due to increased exposure as interest rates continued to rise. Furthermore, Mr. Gruenberg stated that, following the impact that banks with assets over $100 billion can have on financial stability, further attention is required in (i) assessing FDIC prudential regulations and (ii) the methods of executing resolutions of these bank types.

Mr. Gruenberg characterized the banking industry in the first quarter of the 2023 as "well-capitalized" and "highly liquid" while pointing to a key risk of elevated levels of unrealized losses on investment securities. He identified the following factors which led to the failures of SVB and Signature Bank, as well as Silvergate's closure:

• Silvergate Bank. Mr. Gruenberg said that the outflow of deposits from digital asset customers, combined with the FTX deposits following its collapse, led to a 68 percent loss in deposits. He said that the self-liquidation of Silvergate is an example to banks of how traditional banking risks, such as a lack of diversification, aggressive growth and sensitivity to liquidity risk, can lead to bad outcomes.
• SVB. Mr. Gruenberg said that, despite the SVB CEO urging venture capital clients to remain calm following announcements that the bank (i) sold the majority of its available-for-sale securities at a $1.8 billion after-tax loss and (ii) was attempting to raise $2.25 billion, many of SVB’s venture capital customers urged companies to move their deposit accounts out of SVB. By March 9, 2023, SVB experienced a $42 billion loss in deposits.
• Signature Bank. Mr. Gruenberg pointed out that while SVB catered almost exclusively to venture capital firms, Signature Bank was a commercial bank. He highlighted that both failed banks experienced rapid growth and had been heavily reliant on uninsured deposits for funding. Additionally, Mr. Gruenberg stated that Signature Bank's balance sheet shrank from $118 billion in total assets to $89 billion by the end of 2022.

Mr. Gruenberg stated that the FDIC’s recommendation to Treasury to make a systemic risk determination under the Federal Deposit Insurance Act was influenced by several risk factors including, among other things, (i) the "significant" number of uninsured depositors at both Signature Bank and SVB, given their size, and (ii) the decrease in liquidity of banking organization could cause the organizations to be less willing to lend to businesses and households. He asserted that the systemic risk determination allowed the FDIC to provide deposit insurance protection to all of SVB’s and Signature’s depositors – both insured and uninsured. However, he made it clear that the determination does not protect shareholders or unsecured debt holders of the two failed banks.

Following the banks’ failures, Mr. Gruenberg maintained that the U.S. financial system remains sound. He said that within the banking industry, banks have (i) observed a "moderation" in deposit outflows for large banks that were previously experiencing large outflows in the week of the banks’ closures and (ii) taken preemptive steps to increase liquidity by relying on the Federal Home Loan Bank. More generally, however, he stated that the financial system is continuing to experience the risks posed by inflation, rising market interest rates and geopolitical uncertainties.

FRB Vice Chair for Supervision Michael S. Barr said that the banks’ failures have proven that the FRB must "evolve [its] understanding of banking in light of changing technologies and emerging risks." He said that the FRB will review SVB’s (i) growth and management, (ii) the FRB’s supervisory engagement with SVB and (iii) the regulatory requirements applied to the bank. While the study is not complete, Mr. Barr anticipates that the failures may be due to "inadequate" risk management and internal controls that were unable to keep up with the pace of the bank’s growth.

Mr. Barr also said that while the FRB adjusted its supervisory framework to account for the non-traditional model of SVB which was primarily involved in the technology sector, the risks contributing to its failure were not unique. He said that the dedicated novel activity supervisory group established to account for this unique model will be reviewed to assess (i) how effective the supervisors’ approaches were in identifying risks, and more specifically, risks that pose a material threats to the bank’s safety and soundness, (ii) whether the supervisors had the tools to mitigate these threats and (iii) if the FRB’s practices and policies are conducive to supporting the supervisors effectively using such tools.

Additionally, he noted that SVB was a "Category IV" bank under the "Economic Growth, Regulatory Relief, and Consumer Protection Act," meaning that it was subject to less stringent standards. Mr. Barr said that in light of this and the bank’s failure, the FRB is examining whether higher standards would have caused SVB to (i) mitigate risks which ultimately led to its failure and (ii) have higher capital and liquidity and thus greater resilience.

Treasury Undersecretary for Domestic Finance Nellie Liang reaffirmed Treasury's commitment to continue monitoring developments within the banking industry and U.S. financial system as well as coordinating efforts with Federal and state regulators. She stated that she "fully supported" the FDIC and the FRB's respective reviews of the bank failures in order to ensure that bank regulatory policies and supervision are able to adequately address today's risks.