With the recent failure of two midsize banks, some Democrats have blamed deregulation championed by then-President Donald Trump in 2018. While the law did reduce oversight of small and midsize banks, experts are divided over whether deregulation in 2018 ultimately caused Signature and Silicon Valley Bank to collapse.
Silicon Valley Bank, the 16th largest bank in the U.S. by assets, specialized in meeting the credit needs of technology startup companies and venture capital firms. Experts say it got into trouble because of large unrealized losses on government securities, which became a problem when the Federal Reserve raised interest rates and the value of securities dropped.
“When people started asking for their funds last week, SVB faced a liquidity crisis,” Liz Peek wrote for Fox News. “Their holdings had shrunk in value, so they tried to raise new capital by selling stock and preferred shares to tide them over. Going to public markets instead of private lenders was a mistake. Depositors were spooked and rushed to claim their funds, causing a bank run and the shuttering of SVB.”
On March 10, federal regulators took control of SVB’s assets, making it the second-largest bank failure since at least 2001. Two days later, regulators took control of another failing bank, Signature Bank, which was heavily involved in the cryptocurrency sector.
In remarks from the White House on March 13, President Joe Biden assured that the federal government would protect the money customers had deposited with the banks. Any money lost would not be borne by taxpayers, he said, but rather would be covered by fees banks pay into the federal Deposit Insurance Fund. (William Luther, director of the American Institute for Economic Research’s Sound Money Project, told the New York Post that while banks pay the fees, “they pass along some of the cost to their customers in the form of higher fees and lower-quality services.”)
However, Biden said, “investors in the banks will not be protected. They knowingly took a risk and when the risk didn’t pay off, investors lose their money. That’s how capitalism works.”
Biden then criticized Trump for loosening oversight of the banks.
“During the Obama-Biden administration, we put in place tough requirements on banks like Silicon Valley Bank and Signature Bank, including the Dodd-Frank Law, to make sure the crisis we saw in 2008 would not happen again,” Biden said. “Unfortunately, the last administration rolled back some of these requirements. I’m going to ask Congress and the banking regulators to strengthen the rules for banks to make it less likely that this kind of bank failure will happen again and to protect American jobs and small businesses.”
Others were more direct in blaming the Trump-era deregulation for the bank failures.
“Let’s be clear. The failure of Silicon Valley Bank is a direct result of an absurd 2018 bank deregulation bill signed by Donald Trump that I strongly opposed,” said Sen. Bernie Sanders, the Vermont independent who ran for the Democratic presidential nomination in 2016 and 2020.
Democratic Sen. Elizabeth Warren was equally unequivocal in an opinion piece for the New York Times.
“No one should be mistaken about what unfolded over the past few days in the U.S. banking system: These recent bank failures are the direct result of leaders in Washington weakening the financial rules,” Warren wrote.
“In 2018, the big banks won,” Warren wrote. “With support from both parties, President Donald Trump signed a law to roll back critical parts of Dodd-Frank. Regulators, including the Federal Reserve chair Jerome Powell, then made a bad situation worse, letting financial institutions load up on risk.”
“Had Congress and the Federal Reserve not rolled back the stricter oversight, S.V.B. and Signature would have been subject to stronger liquidity and capital requirements to withstand financial shocks,” Warren said. “They would have been required to conduct regular stress tests to expose their vulnerabilities and shore up their businesses. But because those requirements were repealed, when an old-fashioned bank run hit S.V.B., the bank couldn’t withstand the pressure — and Signature’s collapse was close behind.”
Trump spokesman Steven Cheung released a statement saying Democrats were employing “desperate lies” in an attempt to blame Trump for the collapse of SVB.
“This is nothing more than a sad attempt to gaslight the public to evade responsibility,” Cheung said. “The fact is that Biden has presided over a catastrophic economy that has devastated everyday Americans and has caused misery across the country due to his anti-America policies.”
Deregulation in 2018
In response to the 2008 financial crisis, a Democratic-controlled Congress in 2010 passed the Dodd-Frank Wall Street Reform and Consumer Protection Act — a bill that then-President Barack Obama called “the toughest financial reform since the aftermath of the Great Depression.” The Senate passed the bill 59-39 with the support of just four Republicans.
After Trump won the White House, Republicans sought to undo some of those regulations for small and midsize banks by passing the Economic Growth, Regulatory Relief, and Consumer Protection Act in 2018.
Among other things, the 2018 law reduced the number of banks that were subject to stronger federal oversight. Under Dodd-Frank, banks with assets of more than $50 billion were subject to stress tests, higher capital requirements and other “enhanced prudential standards” designed to reduce risk.
Specifically, section 401 of the law largely eliminated enhanced regulation for banks with assets between $50 billion and $100 billion, and gave the Fed discretion to apply the enhanced standards on financial institutions with assets between $100 billion and $250 billion, including how frequently to conduct required supervisory stress tests.
At the time, the nonpartisan Congressional Budget Office wrote that the 2018 legislation “would result in fewer assets being subject to enhanced prudential regulation and would thus increase the likelihood that a large financial firm with assets of between $100 billion and $250 billion would fail.”
In a March 14 floor speech, Warren called for the repeal of section 401.
“The bank failures our nation experienced this weekend were entirely avoidable if Congress and the Fed had done their jobs and kept strong oversight of big banks in place,” Warren said. “And now we must act quickly to prevent the next crisis by repealing the dangerous Trump-era provisions that made banks weaker.”
The Republican-controlled Congress passed the 2018 legislation with some Democratic support. It passed the House 258-159, with 33 Democratic votes. And it passed the Senate 67-31, with 16 Democrats joining Republicans.
When Trump signed the bill in May 2018, he said, “The legislation I’m signing today rolls back the crippling Dodd-Frank regulations that are crushing community banks and credit unions nationwide. They were in such trouble. One-size-fits-all — those rules just don’t work, and community banks and credit unions should be regulated the same way … with proviso for safety, as in the past when they were vibrant and strong. But they shouldn’t be regulated the same way as the large, complex financial institutions. And that’s what happened. And they were being put out of business one by one. And they weren’t lending.”
In its March 2019 annual report, Trump’s Council of Economic Advisers said the new law “recognizes the vital importance of small and midsized banks, as well as the high costs and negligible benefits of subjecting them to regulatory requirements better suited for the largest financial institutions.”
Greg Becker, CEO of the parent company of SVB, was among those who lobbied Congress to raise the $50 billion threshold for enhanced oversight. In a statement provided to the Senate Banking Committee in 2015, Becker argued, “Given the low risk profile of our activities and business model, such a result [failure to raise the $50 billion threshold for enhanced regulation] would stifle our ability to provide credit to our clients without any meaningful corresponding reduction in risk.”
Becker repeatedly stated that SVB and other midsize banks did not “present systemic risk” and therefore enhanced regulatory oversight was not warranted.
Systemically important financial institutions are those that regulators deem would pose a serious risk to the economy if they were to collapse. According to Bloomberg, “There was a feeling that if any bank one-17th the size of JPMorgan went down, it wouldn’t be catastrophic. But the [current] turmoil in the tech industry and fears of contagion are questioning that logic.”
According to the OpenSecrets, SVB spent $670,000 lobbying Congress between 2015 and 2018, when the new law was signed. Also worth noting is that Becker isn’t just the CEO of SVB; he served on the board of directors at the Federal Reserve Bank of San Francisco until federal regulators took control of SVB on March 10.
SVB had assets of $209 billion at the end of the year, while Signature, the 29th largest bank in the U.S, had assets of $110 billion — both falling under the threshold that requires the most intense federal oversight.
But was the 2018 deregulation to blame for the collapse of SVB and Signature Bank? That’s a matter of dispute.
Did 2018 Deregulation Lead to Bank Failures?
Although some Democrats have directly blamed the 2018 law for the collapse of SVB and Signature Bank, banking experts we spoke to were divided on that.
“I agree that the 2018 deregulation contributed to the problem,” Michael Ohlrogge, associate professor at the New York University School of Law, told us via email. “Basically, the deregulation made it more likely that we would have a crisis such as this, and more likely that it would be worse in the event that it did happen. One of the key reasons for this is that the 2018 deregulation reduced the amount of shareholder money that banks need to use to finance their asset acquisitions. Banks are required to have minimum amounts of shareholder money funding their assets so that if those assets drop in value, there is enough of a ‘cushion’ of shareholder value to take losses, before those losses take a hit out of depositor recoveries. So, without the 2018 deregulation, it is likely that SVB would have had a larger buffer of shareholder money to absorb losses, making it less likely that there would have been a panic in the first place, and given that there was a panic, the losses to depositors likely would have been less.
“That being said, it would not be accurate to say that there is no chance this crisis would have occurred were it not for the 2018 deregulation,” Ohlrogge said. “The 2018 changes just made it more likely to occur.”
Although the 2018 banking law increased the asset threshold at which a bank would be automatically subject to enhanced regulation, Aaron Klein, senior fellow in economic studies at the Brookings Institution, wrote at the time the change came “with an important caveat that the Federal Reserve retains the discretion to apply enhanced regulatory standards to any specific bank greater than $100 billion, if the Fed feels that is warranted.”
“I think SVB shows that the Fed was given discretion that it promised to use wisely and in fact failed miserably,” Klein told us in an email.
Klein believes the Federal Reserve missed several “classic red flags in basic banking supervision” of SVB.
First, he said, was the bank’s “explosive asset growth.” SVB had nearly quadrupled its assets in four years.
Second, he said, SVB also had a “hyper reliance on uninsured deposits,” referring to deposits above the Federal Deposit Insurance Corporation’s limit of $250,000. “Uninsured depositors are more likely to run, making the bank inherently less stable,” Klein said.
Third, he said, SVB assumed “huge interest rate risk.” During its period of rapid growth from 2019 to 2021, “SVB bought over $100 billion of mortgage backed securities issued at low interest rates. They failed to buy hedges to protect their value if interest rates rose.”
Finally, he said, as SVB needed cash, it tapped the Federal Home Loan Bank system. “The FHLB is called the lender of next to last resort and when a bank fails the FHLB is the only entity that gets paid out ahead of the FDIC.” Klein said. “Thus, the more in debt a bank is to the FHLB, the greater the losses born by the taxpayer if the bank fails.”
Ohlrogge agrees there were missed warning signs.
“Regulators probably didn’t pay careful enough attention to unrealized losses on SVB’s balance sheet,” he said. “SVB said that they planned to hold many of their assets to maturity, and thus took advantage of accounting and regulatory rules that allowed them not to book losses on those securities. But, this just papered over the problem. Regardless of whether SVB planned to sell its securities, if those securities were paying out a much lower interest rate than SVB had to pay its depositors, then that creates a pretty big problem for SVB.”
But Ohlrogge said SVB’s most recent public financial statements from the third quarter suggested SVB “was managing things moderately well, at least from a superficial perspective.” It was still showing good profitability, “even given the interest rate increases that had occurred.”
“So, while I think it would be good to introduce new rules going forward that do a better job at looking at unrealized losses, I think it’s hard to make the case that SVB was obviously a ‘dead bank walking,'” Ohlrogge said. “Indeed, had that been the case, then there would have been a lot of money to be made shorting the stock, and overall, not that many people did so.”
Klein said there was other relevant deregulation beyond the Economic Growth, Regulatory Relief, and Consumer Protection Act.
“The FDIC changed its definition of brokered deposits, particularly as it relates to accounts that tech firms had of other customer’s money,” Klein said. “The Fed changed its LCR [liquidity coverage ratio] standards in ways not required by the law.” Looking at just the 2018 law “as all of the regulation is too narrow,” Klein said.
Also, the Fed finalized a rule in October 2019 that subjected certain banks with assets between $100 billion and $250 billion to stress tests every two years, instead of every year. SVB grew so fast that it collapsed before it was eligible for its first stress test, as explained by Todd Phillips of the Roosevelt Institute.
However, Kent Smetters, a professor of business economics and public policy at the University of Pennsylvania’s Wharton School, told us “there is considerable doubt whether the enhanced stress tests would have found anything particular for SVB relative to other large banks, which also hold very large unrealized losses due to asset duration mismatched.”
“The key difference is that SVB has a lot of business deposits that are ‘hot money’ while many other big banks with more retail clients have ‘slow money’ deposits,” Smetters explained. “Hot money quickly moves to take advantage of differences in interest rates across banks. However, the regulatory [stress] tests (known as DFAST) places less emphasize on how the elasticity of money flows might vary across banks.”
The sharp increase in interest rates by the Fed doomed SVB, Smetters told us in an email, and “there is very little that they could have done to avoid it.”
“The recent sharp increases of the interest rates pretty much dooms banks with predominately ‘hot money’ deposits,” Smetters said. “If ‘hot money’ banks previously tried to shorten their asset durations to reduce risk, those banks would have been unable to have competed against banks with ‘slow money’ who can afford to take on duration risk and pay higher yields. If the ‘hot money’ banks previously tried to reduce their duration mismatch by buying interest rate swaps, the ‘hot money’ banks would have again been unable to pay a yield that was competitive with ‘slow money’ banks who don’t face these same costs. Either way, the ‘hot money’ banks would have lost deposits and — combined with the FDIC insurance limit of $250K per account — would have led to a bank run.”
Former Rep. Barney Frank, who chaired the House Financial Services Committee and was one of the authors of the 2010 Wall Street regulations that bear his name, was serving on the board of New York’s Signature Bank, which regulators shut down and placed under the control of the FDIC on March 12.
Frank, who pushed for some of the 2018 changes, doesn’t agree that deregulation of small and midsize banks championed by Trump in 2018 was responsible for the downfall of Signature Bank.
“I don’t think that had any impact,” Frank told Politico. “They hadn’t stopped examining banks.”
According to Politico, Frank “blames Signature’s failure on a panic that began with last year’s cryptocurrency collapse — his bank was one of few that served the industry — compounded by a run triggered by the failure of tech-focused Silicon Valley Bank late last week.”
But some Democratic legislators aren’t giving the 2018 law a pass.
“I have no doubt that if this bank had been subject to the much tougher regulation that they would not have been allowed to buy long-term Treasuries and long-term debt instruments insured by the federal government — basically, mortgage-backed securities,” Democratic Rep. Brad Sherman of California, a member of the House Financial Services Committee, told Bloomberg. “They would have been pushed to buy short-term instruments and we wouldn’t be having this conversation.”
Further scrutiny is already underway, including what caused the banks to fail, whether regulators should have done something about it and whether laws need to be changed to prevent such failures in the future.
CNN reports that the Justice Department and Securities and Exchange Commission have opened investigations into the collapse of SVB. And on March 13, the Federal Reserve Board announced that Vice Chair for Supervision Michael S. Barr will lead “a review of the supervision and regulation of Silicon Valley Bank, in light of its failure,” and that it will release his findings on May 1.
“We need to have humility, and conduct a careful and thorough review of how we supervised and regulated this firm, and what we should learn from this experience,” Barr said.
Eugene Kiely contributed to this article.
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