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Restoring confidence in the American banking system

Rep. Sherman: Restore enhanced regulation by the Fed of banks with over $50 billion in assets

Rep. Brad Sherman offers ideas on shoring up the U.S. financial system after the collapse of SVB and other banks.
Rep. Brad Sherman offers ideas on shoring up the U.S. financial system after the collapse of SVB and other banks. (Nikolas Kokovlis/NurPhoto via Getty Images)

With the acute phase of the Silicon Valley Bank and Signature Bank debacle coming to a close, Congress now has an opportunity to make the financial system safer.

There are only three dozen medium-sized banks — with between $50 and $250 billion in total assets — in the United States. Two failed within a week, and several others needed help to survive. Clearly, better regulation of this sector is needed.

In addition, stress tests of the largest banks have not adequately focused on the stress of changing interest rates, which was the stress that doomed Silicon Valley Bank. Finally, some banks require many of their loan customers to keep all their money at the bank, subjecting the customer to unwarranted risks. To erect additional guardrails for financial institutions so that a future banking crisis can be thwarted, we must take the following steps as soon as possible.

Restore key Dodd-Frank protections

We must restore Section 165 of Dodd-Frank, which required enhanced regulation by the Federal Reserve of all banks with over $50 billion in assets.

This would reverse an unfortunate provision of the Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018, which received almost unanimous support amongst House Republicans and very little Democratic support. The Republican bill exempted Silicon Valley Bank, Signature Bank, and other mid-sized banks ($50 billion to $250 billion in assets) from rigorous and routine capital and liquidity stress tests that evaluate a bank’s ability to respond to financial market emergencies.

The Republican bill led to weaker, more relaxed requirements for banks with between $100 billion and $250 billion in assets. Rulemaking by the Federal Reserve in 2019 subjected banks of that size (“Category IV”) to only minimal prudential standards that were insufficient to prevent the collapse of Silicon Valley Bank and Signature Bank, or to prevent the near-collapse of several others. In particular, if Silicon Valley Bank was subjected to an assessment of how reliable its funding was (i.e. the net stable funding ratio test), then it would have been prevented from holding such a sizable portion of its portfolio in long-term Treasury bonds.

One note about the 2018 bill: There were good, unrelated provisions in the bill and I can understand why some members voted for it. They may have focused on the unrelated provisions that provided some help to veterans and consumers, without understanding the full danger of deregulating mid-sized banks.

What I don’t understand is why members voted to consider the 2018 bill under a closed rule, which prohibited any member from offering an amendment. Had we defeated the closed rule, the House could have voted to keep the good provisions of the 2018 bill, while nixing the idea of deregulating the mid-sized banks.

Require ‘interest rate’ stress tests

We must explicitly require that stress tests evaluate each bank’s ability to withstand rising or declining interest rates.

Recent tests have focused on a severe recession, rather than significant changes in interest rates. While the top executives of Silicon Valley Bank and Signature Bank deserve most of the blame for mismanagement of their portfolio of assets, their collapse could have been predicted if they had been subjected to a stress test scenario on changing interest rates.

Close regulatory loopholes

We need to mandate that banks of the same size are subject to the same rules — whether or not they have a holding company. Signature Bank and First Republic Bank, which needed a massive infusion of cash last week, do not have holding companies.

But that’s no reason for them to escape regulation.

Prohibit banks from requiring clients to maintain over half the client’s bank deposits at the bank

When Silicon Valley Bank lent money to operating companies, it often required the company to keep all its money in Silicon Valley Bank. This forced the company to take extraordinary risks. Borrowers should not be forced to bet their company on the solvency of one bank.

Companies should diversify their deposits over several banks, and will have insurance on the first $250,000 deposited in each institution. And if there is a temporary hiccup at one bank, the company can meet payroll from another.

Require transparency and accountability from federal bank regulators

We must require a report to Congress by federal bank regulators within 180 days that evaluates the causes of the March 2023 banking crisis, and makes policy recommendations to Congress for amendments to current laws or regulations that could avoid similar outcomes in the future, in addition to any other policy recommendations to alleviate any vulnerabilities in our financial system that this crisis has laid bare.

There are other provisions which should be considered. Should banks be allowed to carry bonds and other securities on their balance sheet at far more than they are currently worth, simply by saying that they hope to hold the bond until maturity? What provisions are needed to claw back bonuses to bank executives?

Is it consistent with constitutional principles for the boards of the regional Federal Reserve banks to be elected by commercial banks, rather than appointments of a democratically elected president? Should we expand FDIC insurance above the $250,000 limit? Does our system of having multiple bank regulators allow banks to forum shop? Should banks be allowed to list cryptocurrency as an asset on their balance sheet when its value is speculative?

I am confident that Democrats on the Financial Services Committee, under the leadership of Ranking Member Maxine Waters, D-Calif., will craft legislation that assures the public that our banking system is safe.

Rep. Brad Sherman, D-Calif., represents his state’s 32nd Congressional District, has served for 26 years on the Financial Services Committee and is the only Democratic CPA in Congress.

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