Deregulation Keeps Biting Us

Silicon Valley Bank recently collapsed as did Signature Bank. The problem is that these were completely unavoidable and were avoidable until deregulations stepped in and allowed these events to happen. As usual, I will reference the actual sources to avoid any biased opinions.

Generally, I’d like to think that people don’t intentionally mean ill will towards anything. For example, I’d like to believe that the executive team of Silicon Valley Bank didn’t intentionally force the company to go bankrupt. However, I’ve found throughout my life that any time a loophole or someone can take advantage of a situation, someone will. Historically, it always happens or there wouldn’t be a word “loophole”. For example, most people who can afford a Lamborghini or a Maserati don’t have any intentions to speed all the time. But, some people will because the ticket for doing so is a couple of hundred dollars. When you can afford a multi-million dollar car, then a speeding ticket is like throwing a cigarette lighter at a lake hoping to evaporate it.

In 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act was passed as a financial regulation overhaul in response to the Great Recession in 2008 and 2009. Some key provisions of the Dodd-Frank Act include:

  1. Creation of the Consumer Financial Protection Bureau (CFPB), which is responsible for protecting consumers in the financial marketplace and enforcing regulations related to consumer financial products and services.
  2. Regulation of the derivatives market, which played a significant role in the financial crisis. The Dodd-Frank Act requires standardized derivatives to be traded on regulated exchanges or swap execution facilities, and requires certain derivatives to be cleared through central clearinghouses.
  3. Increased regulation of financial institutions, including higher capital requirements for banks and other financial firms, and restrictions on proprietary trading and hedge fund activities.
  4. Creation of the Financial Stability Oversight Council (FSOC), which is responsible for identifying and monitoring systemic risks to the financial system and taking action to address those risks.
  5. Enhancing transparency in the financial markets, including requiring public reporting of certain transactions and creating rules for credit rating agencies.

For a decade, banks had regulations put into place that would, theoretically, prevent any major banks from going bankrupt from poor decisions. Coincidentally, after this law was passed I was working on a team in the finance sector that ensured the company was compliant with these regulations. In any case, it appears this act worked fine since I can’t find any major banks going bankrupt, that was until March, 2023.

One of the key regulations imposed by the Dodd-Frank Act was that it only applied to banks with a minimum threshold of $10 billion in assets. In addition, Dodd-Frank also enforced for banks deemed “too big to fail” above $50 billion in deposits. In 2018 when the Economic Growth, Regulatory Relief, and Consumer Protection Act was passed, the deposit requirement was increased to $250 billion and the $10 billion in assets was completely removed under the Volcker Rule. The Volcker Rule is a provision of the Dodd-Frank Act that restricts banks from engaging in proprietary trading and limits their investments in hedge funds and private equity funds. The rule is aimed at preventing banks from taking on excessive risks that could lead to another financial crisis. It is enforced by federal agencies and requires banks to have compliance programs in place to ensure they are adhering to the rule.

The problem is that Silicon Valley Bank did just that: they engaged in proprietary trading and ignored its investment limits. They were also exempt from the Dodd-Frank Act since their assets as of December 31, 2022 were $209 billion. An estimated 86.4% of deposits were unsecured. Praise the FDIC (seriously), because they protect up to $250,000 on every individual person’s deposit. On March 10, 2023, Moody’s (a bond credit rating business) downgraded the rating for Silicon Valley Bank to Caa2 due to negative long-term issuer ratings and negative stability from its earnings. They write, “The key drivers of SVB’s failure was significant interest rate and asset liability management risks and weak governance. The significant deterioration in SVB’s funding and profitability profile reflects high risk in its financial strategy and risk management.” Keywords: weak governance. If only there was a way to prevent that. In any case, the bank declared bankruptcy. Oh, and so did Signature Ban for the same reasons.