Preventing Bank Failures is Not the Job of Regulators

Senate and House banking committee hearings about the Silicon Valley Bank and Signature Bank failures will probe what happened and what regulators did — and didn't do — in the run-up to the banks' closures and FDIC takeovers. Underlying these hearings will be the belief that such failures should be preventable. Bryan Hubbard, former public affairs chief at the Office of the Comptroller of the Currency, says this is a mischaracterization of regulators' role.

The second-guessing and public excoriation of the regulators and bankers involved in the failures of Silicon Valley Bank and Signature Bank are kicking into high gear in Washington. Along with this comes blaming individuals and policies championed by one political party or the other.

Finding fatal flaws in the system and determining what can be improved is critical, of course. Yet I am reminded of advice two influential people in my life have given me, things that participants in the current debate should keep in mind.

• The first came during the 2008 financial crisis. One busy Friday evening, the chief national bank examiner at the Office of the viewpoint Comptroller of the Currency reminded me:

“It is not the regulators’ job to prevent a bank from failing.”

• The second came from an even more influential source — my mother. She advised me to never make important decisions while angry.

Let me explain why these bits of advice came to mind now, as the Senate Banking Committee and the House Financial Services Committee launch into hearings about recent bank failures only weeks after they occurred.

Absolute Protection of Banks and Banking Freedom Can’t Co-Exist

Saying “it is not the regulators’ job to prevent a bank from failing” is not apologizing for regulatory errors or misses that contribute to a particular bank’s failure. The chief national bank examiner I knew was not about to let an exam team off the hook for going easy on an institution or missing a call.

“Banking is a business. The responsibilities for making the decisions that determine each businesses’ successes belong to bankers and boards of directors that manage them.”

Instead, the regulator’s comment was a blunt reminder that banking is a business. The responsibilities for making the decisions that determine each businesses’ successes belong to bankers and boards of directors that manage them.

Sometimes businesses, including banks, fail.

Saying that sometimes banks fail does not diminish the responsibility nor the tragedy of each individual case. Often, the bank represents someone’s or some family’s life work. And, of course, there are customers’ assets to consider.

Yet, if banks never failed, the nation would not need deposit insurance in the first place.

• If regulatory policies propped up insolvent banks or made failure painless, failure would lose its force to discipline markets and provide downside consequences for risk taking.

• Conversely, if risk was wrung out of the system entirely by overregulation, banks would cease in their ability to provide credit. Either that, or credit would become so difficult and so expensive to maintain that only those who did not need it would qualify.

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Point to Ponder: Why Bank Failures Happen

I oversaw the announcement of hundreds of bank failures during my career at the Comptroller’s Office.

I know there are many reasons a banking business can fail, and those reasons vary greatly. I’m not attempting to diagnose the two most recent collapses. Overall, failures can occur as the result of earnest business decisions gone wrong, business conditions changing so dramatically that a particular model or market is just not viable anymore, or a competitive environment driving a player out of business.

In such cases, it is entirely possible for bank managers and regulators to do everything they can, and yet things still don’t work out.

Of course, banks fail for other reasons too. Fraud, incompetence, malfeasance, negligence and even sabotage in the form of an orchestrated bank run can bring down otherwise healthy banks. Policies, too, can contribute to making otherwise apparently safe decisions risky by hiding risk, artificially suppressing or inflating price or value, or, worse, making those things change rapidly. In these cases, accountability for those culpable is essential to maintaining confidence in the banking system as a whole.

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Banks are Special and That Makes Failures Major News

When banks do fail and regulators make the difficult call to close them, it is big news because banks are special.

People trust them with what is a prized possession: their money.

Banks play an important role in the national and global economy, comprising the “financial circulatory system” upon which everything else depends. They are sources of civic pride and national strength.

Federal Reserve Michael Barr FDIC Martin Gruenberg Treasury Nellie Liang

Both the Senate and House banking committees will be questioning officials about recent bank failures. On the lineup for both committees, l. to r., Michael Barr, vice chair for supervision, Federal Reserve Board; Martin Gruenberg, chairman, Federal Deposit Insurance Corp.; and Nellie Liang, undersecretary for domestic finance, Treasury Department.

Banks are granted state or federal charters to operate. Their deposits — at least a portion — are insured. They enjoy access to exclusive sources of liquidity and powerful tools and systems. They operate under special laws and authority.

Most importantly banks are closely supervised by highly trained people whose job is ensuring that the entire system operates in a safe, sound and fair manner.

Because banks are special, it is only natural when one or two fail that people become angry and demand answers. Everyone wants to know the “but for” — as in, “but for this one thing” the bank would have continued to operate safely and successfully.

“Anger makes great theater, but it’s terrible fuel for making nuanced decisions that support a system as complex and important as banking.”

We will see a lot of that in the weeks and months to come as hearings are held, investigations completed, and trade associations, think tanks, congressional staff, regulatory agency analysts and pundits of many stripes begin to think about the industry’s regulatory and legislative future. Policymakers will call out villains — and they will demand new rules and safeguards intended to prevent all of this from ever happening again.

And that’s where the second piece of advice I received comes in. It is especially important that policymakers and regulators avoid making any decision about new rules and safeguards while angry.

Anger makes great theater, but it’s terrible fuel for making nuanced decisions that support a system as complex and important as banking.

Rather, collaborative efforts should be focused on ensuring that the steps taken immediately following the closures of Silicon Valley Bank and Signature Bank provide the tools necessary for the industry to work through what remains of the $620 billion in unrealized losses baked into the system already. (My source for that is a speech given in early March by Martin Gruenberg, FDIC chairman.)

Banking — and the Economy — Don’t Need a Remake of a Bad Film

Perhaps through such sober and cooperative hard work — not angry finger pointing — the nation and industry can avoid a repeat of what happened the last time there was a multiyear gap between bank closures.

Many readers probably do not need the reminder that the last time was leading up to the 2008 crisis. I recall there was chart that hung in a conference room at the Office of the Comptroller of the Currency headquarters showing that no bank had failed from June 2004 through January 2007.

That period was celebrated, but mature examiners who had survived the savings and loan crisis of the 1980s were reminding anyone who would listen that the worst loans are made in the best of times.

More than 400 banks, many of them community banks, failed in the next couple of years. Similarly, prior to Silicon Valley Bank’s March 10 closing, the last bank to fail occurred on Oct. 23, 2020 — Almena State Bank.

Let’s hope that is where the similarities between 2008 and 2023 end.

About the Author:

Bryan Hubbard is a consultant focused on banking and financial services risk and reputation. He has provided outcome-focused strategic communication counsel to federal agency heads and chief executives for more than 30 years. He served under nine heads of the Office of the Comptroller of the Currency for more than 15 years. This included serving as OCC’s Deputy Comptroller for Public Affairs, where he headed the agency’s communication and external relations functions. He previously wrote “SVB Post-Mortem: Communications Lessons Amid the Collapse.”

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