Bank Supervision: More Timely Escalation of Supervisory Action Needed

What GAO Found

Risky business strategies and weak liquidity and risk management contributed to the failures of Silicon Valley Bank (SVB) and Signature Bank in March 2023. In both banks, rapid growth was an indicator of risk. From 2019 to 2021, the total assets of SVB and Signature Bank grew by 198 percent and 134 percent, respectively. This far exceeded growth for a group of 19 peer banks (33 percent, at the median). In addition, both banks had high percentages of uninsured deposits, which can be an unstable source of funding because customers with uninsured deposits may be more likely to withdraw their funds during times of stress. SVB also was affected by rising interest rates and Signature Bank had exposure to the digital assets industry.

In the 5 years prior to 2023, the Board of Governors of the Federal Reserve System (Federal Reserve) and Federal Deposit Insurance Corporation (FDIC) identified concerns with SVB and Signature Bank. But both banks were slow to mitigate the problems the regulators identified and regulators did not escalate supervisory actions in time to prevent the failures.

Federal Reserve and FDIC policies require staff to include specific information when communicating supervisory concerns to banks. GAO found that Federal Reserve and FDIC supervisory staff generally adhered to these requirements in communicating concerns to SVB and Signature Bank.

Both regulators established internal procedures for when to escalate concerns to informal or formal enforcement actions. However, the Federal Reserve's procedures often were not clear or specific. The procedures often did not include measurable criteria for examiners to use when recommending informal or formal enforcement actions. This lack of specificity could have contributed to delays in taking more forceful action against SVB. Adopting clearer and more specific procedures could promote more timely enforcement action to address deteriorating conditions at banks in the future.

In August 2023, FDIC updated its procedures for escalating supervisory concerns to require FDIC examiners to consider escalating supervisory concerns that are repeated or uncorrected at the end of an examination cycle. However, although the new guidance would have required examiners to consider escalation of Signature Bank concerns as early as 2019, it does not require escalation. As a result, it is unclear whether examiners would have escalated concerns to senior management on a timely basis. FDIC officials told us they intend to further update the procedures to expect examiners to require, instead of consider, escalation in these situations.

Provisions in the Federal Deposit Insurance Act also help regulators determine when to escalate supervisory concerns. Section 38, also known as prompt corrective action, requires regulators to take increasingly severe actions as a bank's capital deteriorates. However, since the 1990s, GAO and others have reported that the effectiveness of the prompt corrective action framework is limited because it relies on capital measures, which can lag other indicators of bank health. The framework repeatedly has demonstrated weaknesses for addressing deteriorating financial conditions in banks and has not achieved a principal goal of preventing widespread losses to the Deposit Insurance Fund. Noncapital triggers (which could be based on factors such as interest rate risk, asset concentration, and poor management) can signal declining conditions before capital triggers do. Adopting noncapital triggers, such as by amending the Federal Deposit Insurance Act to incorporate such triggers, would encourage earlier action to address deteriorating conditions and also limit losses to the Deposit Insurance Fund by requiring early and forceful regulatory actions tied to unsafe banking practices before they impaired capital.

Why GAO Did This Study

The March 2023 failure of SVB and Signature Bank may cost the Deposit Insurance Fund an estimated $22.5 billion. The failures raised questions about the supervisory practices of the Federal Reserve and FDIC. GAO was asked to examine the regulators' communication and escalation of supervisory concerns in the years before the failures. This report examines the regulators' communication of supervisory concerns to the two banks, procedures for escalating such concerns, and whether adopting noncapital triggers could help regulators take more timely supervisory actions.

GAO reviewed Federal Reserve and FDIC internal policies and procedures related to supervisory communication and escalation; analyzed supervisory documentation for SVB and Signature Bank; and spoke with staff from the Federal Reserve, Federal Reserve Bank of San Francisco, and FDIC.