Regulators scramble to contain the fallout from the Silicon Valley bank crash

Federal regulators scrambled Sunday to contain the fallout from the bankruptcy of the Silicon Valley Bankwith the government holding a auction to try to sell the bankrupt entity and policy makers are considering other options to ensure depositors get their money back.

THE Federal Deposit Insurance Corp.. bought out the entity on Friday, putting nearly $175 billion in customer deposits under the regulator’s scrutiny.

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The bank’s failure, the largest since the depths of the 2008 financial crisis, ignited the spark worry that other financial companies could suffer a similar fate to that of increase in interest rates It puts pressure on the banking sector and nervous depositors consider withdrawing their money.

Although customers with deposits of up to $250,000 — the maximum covered by FDIC insurance — will be compensated, there is no guarantee that depositors with larger amounts in their accounts will be fully refunded.

This reality did shake up the banking sector during the weekend.

Government officials and economists feared that people with large accounts at other regional banks would begin to fear for the safety of their deposits, which could lead them to withdraw their money and run for perceived safety at even larger banks.

This, some have warned, could turn what would otherwise be a one-off bank failure into a widespread crisis.

The key question is

“Will it be managed in a way that eases worry and avoids leaks?” said Kristin J. Forbes, an economist at the Massachusetts Institute of Technology.

While the Secretary of the Treasury, Janet Yellenwas trying to reassure Americans — declaring on CBS’s “Face the Nation” that the banking system was “safe and well capitalized” — regulators were scrambling behind the scenes to find a way to isolate the system before US markets open for the week on Monday morning.

The FDIC kicked off an auction of Silicon Valley Bank on Saturday that was expected to conclude Sunday afternoon, according to a person with knowledge of the matter.

Bloomberg previously reported the auction news.

And if that drive to find a buyer failed, the government was considering safeguarding uninsured deposits at the bank, another person said.

But no decision had been made.

As the Treasury, the Federal Reserve, the FDIC and the White House pushed for a solution, economists and politicians feared that companies with large uninsured bank deposits would get nervous as some Silicon Valley Bank customers suffered losses, which would forced to withdraw their deposits from other regional banks.

“The risk is for the regional bankstheir assets flee,” said Rep. Ro Khanna, D-Calif.

He and other members of the state’s congressional delegation joined a call with FDIC officials Saturday night around 11 p.m. in Washington to discuss the situation.

Khanna said the regulator was focused on finding a buyer for the bank.

But if that failed, he said the government had to find a way to promise that all depositors would be refunded in full when the markets open on Monday morning.

As of Saturday night, the FDIC was only willing to commit partially return money to depositors.

“We said this wasn’t going to be enough,” Khanna said in an interview.

“There has been too much passing between the FDIC, the Treasury and the Fed, the reality is that these things happen by consensus.”

Throughout Sunday, officials tried to determine what tools the government had at its disposal to cushion the impact of the Silicon Valley Bank failure.

The first option appeared to be a sale: kevin mccarthySpeaker of the House of Representatives, said the “best outcome” would be for someone to buy the failing bank.

“I hope something can be announced today,” said McCarthy, who said he spoke with Fed Chair Jerome Powell and Yellen on Fox News’ “Sunday Morning Futures With Maria Bartiromo.”

But the sale of Silicon Valley Bank it had no guarantee of successnor was it the only possible path that the Government could take.

The main backup plan analysts considered was the possibility that the FDIC could find a way to return the money to depositors in full.

While the regulator is usually required to break up failing banks as cheaply as possible – which means letting the private sector bear the loss of uninsured deposits – they can get around this by using what is called a “exception of systemic risk“.

This rule, used repeatedly during the 2008 crisis, essentially allows the government to repay uninsured depositors if failure to comply with them would have serious negative consequences for the economy or financial stability.

But invoking the exception requires overcoming a number of hurdles:

The Secretary of the Treasury, in consultation with the President, the FDIC and the Federal Reserve Board, must approve the decision to use it.

Getting the necessary two-thirds of the six sitting Federal Reserve Board members to agree to such a plan could be difficult, experts say.

“If the Fed gives the green light, I would think the Fed looks at that as really systemic,” said Steven Kelly, a senior research associate in the Yale Financial Stability Program, explaining that it wasn’t clear that the Silicon Valley Bank failure is really a threat. for the stability of the broader financial system at this time.

“They tend to take decisions very seriously.”

Some economists have suggested that the Federal Reserve could also help contain any problems with some kind of emergency backupswhich the central bank can use to channel short-term liquidity to needy borrowers during unusual times of market disruption, with the approval of the Treasury Secretary.

But a central bank program may not be attractive in the current situation:

The Federal Reserve’s emergency loan programs make loans, not payments.

There are limitations to these programs which insist they must be broad in scope and which prevent their use by insolvent companies.

And even if depositors are not repaid in full, there are other steps regulators could take to reassure investors that the system is safe.

“I think the more pressing task is to reassure uninsured depositors more broadly,” said Daleep Singh, chief global economist at PGIM Fixed Income and a former economics official in both the Biden administration and the New York Fed.

To do this, the Federal Reserve could emphasize that banks can use the so-called Federal Reserve discount window.

This program allows commercial banks to acquire investment-grade securities, including Treasury bills, and pledge them to the Fed in exchange for cash to meet short-term liquidity needs.

Banks often avoid the discount window because they think using it could signal that they are in a weak position.

But in 2020, when the coronavirus crippled much of the economy, the Federal Reserve tried to encourage entities to use it by making the terms more attractive.

At the time, a bunch of big banks used it in concert to try to emphasize that they used it it wasn’t a sign of weakness.

The Federal Reserve should “put the discount window on flashing neon lights,” Singh said.

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