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SVB Backstop Revives the Specter of Moral Hazard - Dodd-Frank Act

 When bad things happen in banking, limits on deposit insurance turn out to be meaningless.

This is no time for lectures on moral hazard, former US Treasury Secretary Lawrence Summers said ahead of the raft of US policy initiatives announced on Sunday to stabilize the financial system in the wake of the collapse of Silicon Valley Bank. Maybe, but might we at least be allowed a brief lament?

As it is, the sight of depositors being made whole will surely give larger bank customers comfort that they can put their cash in whatever lender is willing to give them the most favorable terms.

It provides a disincentive for both depositors and banks to be prudent. There’s no reward here for SVB customers who banked more carefully. The policymakers and economists will say the whole of society would have been way worse off if there was a banking crisis. 

But what happens next time, especially if the next failure is bigger than SVB? Who will pick up the tab for a blanket emergency guarantee on uninsured deposits then?

There are no easy answers to how to properly insure bank deposits. As ever in a crisis, decisions have to be taken at speed and end up being made by comparing the consequences of the choices available. But once again, a cap on deposit insurance has been found to hold only until something bad happens.

Chris Hughes Bloomberg 13 mars 2023 


Summers “I don’t think this is a time for moral-hazard lectures”


To shore up other banks the Fed is offering them support on strikingly generous terms. 

Fed will offer loans up to the face value of the securities, which, for long-term bonds, can be more than 50% above the market value. 

It is right that the Fed lends against good collateral to stop runs. But doing so on such benevolent terms is unnecessary, and subsidises banks’ shareholders. And though the Fed’s backstopping of the system will probably avert a banking meltdown, policymakers should never have got to a point where such extraordinary interventions were needed.

svb’s failure was so chaotic in part because it was exempt from too many rules designed to avert improvised bank rescues of the sort that the Fed has just engineered. 

After the financial crisis, America’s Dodd-Frank Act required banks with more than $50bn in assets to follow a panoply of new rules, including that they plan for their own orderly resolution if they fail. 

In 2018 and 2019, however, Congress and bank regulators watered down both the resolution planning and liquidity rules, particularly for banks with $100bn-250bn of assets, many of which had lobbied for lighter regulation. 

There have never been bail-in plans for banks of svb’s size.  

The Economist 13 March 2023


The obvious thing Congress could do is reverse the 2018 legislation that raised the balance-sheet size threshold where tougher rules kick in for banks that pose a systemic threat. 

Had this limit not been increased, both SVB and Signature Bank, closed by New York regulators over the weekend, would have been subject to mandatory stress testing and rules designed to help banks survive sudden deposit outflows.

Paul J. Davies Bloomberg 14 mars 2023


Fed’s intervention in SVB collapse shows U.S. capitalism is ‘breaking down before our eyes’

“The U.S. is supposed to be a capitalist economy, and that’s breaking down before our eyes. There’s been a loss of financial discipline with the government bailing out depositors in full.”

“The regulator was the definition of being asleep at the wheel,” said Griffin.

“It would have been a great lesson in moral hazard,” he said. “Losses to depositors would have been immaterial, and it would have driven home the point that risk management is essential.”

He added: “We’re at full employment, credit losses have been minimal, and bank balance sheets are at their strongest ever. We can address the issue of moral hazard from a position of strength.”

Ken Griffin, founder of hedge fund titan of Citadel, MarketWatch 14 March 2023


Bank living wills ensure no bank’s failure can create systemic collapses


The main problem is that the Fed has not moved with alacrity to implement fully key provisions of the Dodd-Frank financial reforms, which were passed in 2010.

For example, the Dodd-Frank legislation specifies that all large financial institutions should draw up meaningful “living wills” – specifying how they could be allowed to fail, unencumbered by any kind of bailout, if they again became insolvent.

Creating such living wills is not an option; it is a requirement of the law. Yet, in a recent speech that reviewed the landscape of financial reform, Fed Vice Chairman Stanley Fischer skipped over the requirement almost completely.

Fischer appears to prefer to rely on the resolution powers of the Federal Deposit Insurance Corporation, which is empowered to takeover failing financial institutions, with the expectation that it will impose losses on creditors in such a way that will not cause global panic. (I am on the FDIC’s systemic resolution advisory committee, but I am not responsible for the agency’s plans or potential actions.)

Simon Johnson Project Syndicate 22 July 2014


Simon Johnson, a former chief economist at the International Monetary Fund, is a professor at MIT’s Sloan School of Management and a co-chair of the COVID-19 Policy Alliance. He is the co-author (with Daron Acemoglu) of the forthcoming Power and Progress: Our Thousand-Year Struggle Over Technology and Prosperity (PublicAffairs, May 2023).

RE: I found this article today 14 March via


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