How do you teach banking law to college students after the collapse of Silicon Valley Bank? That’s the question Adam Levitin, a professor of law at Georgetown University, asked this week, arguing that the statutes laid out after the Great Recession of 2008 are being ignored by regulators and bankers.
“I don’t usually teach the core prudential regulation banking law class, but I really feel for colleagues who do,” he wrote in a Thursday CreditSlips article, referencing so-called “prudential regulations” that are meant to limit the risks banks face. “How can you teach the students the formal rules…when you know that the rules aren’t followed?”
It took only 36 hours for Silicon Valley Bank to collapse after a series of announcements—including the sale of $21 billion of investments which resulted in $2.4 billion pre-tax loss and impromptu fund raising efforts—rattled the lenders’ investors and depositors on March 8. And the crypto-focused Signature Bank followed just a few days later as the pain quickly spread to regional lenders.
The Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010, enacted in the wake of the GFC’s bank failures, was supposed to prevent this type of outcome. Considered to be the “most far reaching Wall Street reform in history” by scholars, Dodd-Frank, as it’s called, created the Financial Stability Oversight Council to monitor banks, the Consumer Financial Protection Bureau to prevent predatory lending practices, established minimum leverage and capital requirements for lenders, and more. But Levitin argued the “enormous legal edifice” proved to be worthless amid SVB’s implosion and the demise of Signature Bank earlier this month.
“We saw in the course of a weekend that it was all an expensive and wasteful Potemkin village,” he wrote, referencing the fake towns that Russian minister Grigory Potemkin set up in the 1780s to impress visiting dignitaries. “Dodd-Frank is still on the books, but its prudential provisions are as good as dead. What good does it do to have a massive set of regulations…if they aren’t enforced?”
To Levitin’s point, many of Dodd-Frank’s most stringent regulations were crippled in 2018 amid the Trump administration’s push for deregulation that came after aggressive lobbying from bank CEOs, including SVB’s CEO Greg Becker. Take the example of “stress tests,” which are designed to determine if a bank can withstand an economic crisis, rising interest rates, or other potentially risky scenarios. Congress passed the Economic Growth, Regulatory Relief, and Consumer Protection Act in 2018 which raised the asset value starting point for Fed stress tests from $50 billion to $100 billion and established looser stress test standards for mid-sized banks with assets between $100 billion and $250 billion.
Fortune’s Shawn Tully explained this week that, as a result, stress tests weren’t done as often as they should have been at many small- and mid-sized banks. And sometimes, they weren’t done at all due to “phase-in” periods where Fed officials would instruct bank executives on how to prepare for the tests, leading to delays. Silicon Valley Bank, for example, had over $100 billion in assets at the end of 2021, but it never had a Fed stress test before its collapse.
Other Dodd-Frank regulations were whittled down by the 2018 law too, particularly for small and mid-sized banks like SVB. For example, the Standardized Liquidity Ratio was waived for banks with assets under $100 billion, which enabled these smaller lenders to hold less liquid capital than larger peers, putting them at risk during a bank run.
Levitin noted the $250,000 deposit insurance limit was also “disregarded” by regulators in an attempt to save the depositors at SVB and Signature Bank from bankers’ mistakes—and he worries that could incentivize even more misbehavior.
“Why should anyone follow its [Dodd-Frank’s] requirements now, given that they’ll be disregarded as soon as they’re inconvenient? And why should the public have any confidence that they are protected if the rules aren’t followed?,” he asked, lamenting “I really don’t know how one can teach prudential banking regulation after SVB.”