Although the Fed’s “unflinching” self-assessment of SVB’s inglorious demise and the FDIC’s still more exculpatory analysis of SBNY talk much of supervisory gaffes, neither addresses a critical unanswered question: why were both agencies so ill-prepared for such large resolutions? That they were is still more grievous when it comes to First Republic, where the agencies are flat-footed even though they’ve had over a month of warnings that FRC might not make it. As the Fed says, a banking system without failure is a financial system without intermediation. It and the FDIC clearly know that failures are inevitable, but still turn to one or another form of the taxpayer bailouts U.S. policy-makers swore after 2008 would never again disfigure the nation’s financial system. The agencies did not answer the urgent question of why even mid-sized bank resolutions are still systemic or lead to still more concentrated market power, but we must and then hold them as accountable for this failure as for all the others mentioned or not in each of their reports.
Are regional banks truly systemic or is it just that the FDIC doesn’t know what to do with them? Mass regional-bank failures are clearly problematic, but would these be likely if the FDIC knew how to resolve mid-sized banks when supervisors spot problems or, failing that as seems sadly likely, if a regional bank comes unglued? The FDIC is clearly ill-prepared to handle them even when the bank is the principal subsidiary of a non-complex BHC as is the case for First Republic, Signature, and SVB.
How do I know the FDIC knows it’s adrift when a regional bank fails? It said so at the start of 2022 when now-Chairman Gruenberg and Acting Comptroller Hsu launched their battle to get a new FDIC merger policy that reduced the need to combine a failing bank with a bigger one. The proposed merger policy says exactly this, but there is still no formal merger policy nor any sign of a plan to handle the failures now upon us.
Congressional Republicans seem to think that the FDIC knew what to do to avoid taxpayer bailouts but refused to do it for woke-related reasons. They are most unhappy that the FDIC initially didn’t resolve either SVB or SBNY via private-sector sales, little mollified when the agency finally shuttered its two bridge banks following deeply-subsidized regional-bank acquisition of the few parts of the banks any wise financial company might actually want.
However, public information on the offers the FDIC had in hand make it clear that they would only have compounded risks. For example, one regional bank funded by a giant private-equity company would not only have blurred the lines between banking and commerce, but also handed a big problem over to a bank whose first-quarter earnings show it’s got more than enough to do to save itself.
I’ve already asked why the FDIC did not deploy the power Congress gave it to avoid bailouts when big banks fail: the orderly liquidation authority (OLA) created thirteen years ago in the Dodd-Frank Act. I also answered that question based on a review of what the FDIC has since done to house OLA in the ready-room: not much for any systemic situation that does not derive from a very, very large U.S. bank. And, of course, it’s reasonable to wonder if the FDIC is even ready for one of these given how Swiss authorities were unable to resolve Credit Suisse without huge bailouts despite like-kind authority to shutter a GSIB.
In short, U.S. regulators have spent so much time regulating the biggest banks or, as Michael Barr would say, subsequently deregulating them that supervision and resolution went by the way-side. It’s not that the agencies didn’t know better – the Fed report has a nifty little history of all the investigations it and a few others launched after the great financial crisis replete with injunctions not just to better regulate banks and systemic nonbanks, but also to watch them carefully and build in shut-down switches. So much time, so little done despite so many warnings, so much taxpayer intervention and newly-increased market power is little to show for the years since 2008 and warning tremors in 2019 and 2020. Resolution – not just regulation – is key to a banking system with sound banks that profitably perform essential macreconomic functions without the moral hazard that enables self-interested management, hands-off boards, insufficient supervision, and systemic risk.