From: lessgovt@gmail.com   
      
   In Today’s Banking Crisis, Echoes of the ’80s   
   Losses at SVB, Signature and other banks reflect the risk from borrowing short   
   and lending long.   
   By Charles W. Calomiris and Phil Gramm, March 28, 2023, WSJ   
      
   It’s natural to look to the 2008 subprime crisis for insights about why our   
   banking system is at risk. But that crisis was a housing finance collapse   
   driven by government policies encouraging banks to take enormous default risk   
   in the mortgage market    
   to promote housing policy. The 1980s offer a better perspective on our current   
   banking instability. Losses on securities at Silicon Valley Bank, Signature   
   Bank and many others still waiting to be addressed reflect the risk from   
   borrowing short and    
   lending long—reminiscent of thrift strategies of the 1970s and the   
   government’s decision to ignore losses from pursuing those strategies in the   
   early 1980s.   
      
   Between 1980-1994, 1,617 banks and 1,295 thrifts either were closed or   
   received govt assistance. For thrifts, the story began with a government   
   mandate forcing them to specialize in long-term mortgage loans funded with   
   deposits. As the Federal Reserve    
   raised rates, funding costs rose and many thrifts became insolvent.   
      
   If losses had been recognized and dealt with by raising capital, reducing   
   leverage and accumulating cash, many institutions would have recovered. Those   
   that couldn’t would have closed with little fallout. Initial losses became a   
   crisis because of a    
   combination of bad accounting, valuing assets at book value rather than market   
   value, and the complacency produced by deposit insurance: Almost all thrift   
   deposits at the time were below the insurance limit.   
      
   The centrality of delayed loss recognition was universally recognized,   
   including in 1991 by Federal Home Loan Bank Board member Lawrence White, who   
   wrote: “The bank and thrift regulatory . . . information system looks   
   backward at historical costs    
   rather than at current market values. . . . The revamping of this accounting   
   framework—a switch to market value accounting—is the single most important   
   policy reform that must be accomplished.” It wasn’t. Recognition delays   
   allowed losses to grow    
   as institutions at or near insolvency faced incentives to increase risk, a   
   practice some labeled “resurrection risk taking.”   
      
   In 1991, new legislation was enacted with the goal of ensuring accurate loss   
   recognition and “prompt corrective action.” As recent events show, that   
   reform failed. Securities holdings held under “hold-to-maturity   
   accounting” weren’t marked to    
   market at SVB, Signature or the roughly 200 other banks that appear to be in   
   similarly perilous condition. Not only did accounting rules allow SVB and the   
   others to avoid formally recognizing losses; supervisors—who have the   
   authority to intervene and    
   look beyond accounting measures to force banks to shore themselves up with new   
   capital—chose to do nothing. It took runs by uninsured depositors at SVB and   
   Signature to force regulators to act.   
      
   Why did supervisors fail to pursue prompt corrective action? Calculating a   
   bank’s duration risk (its exposure to loss from asset-liability maturity   
   mismatch) is part of every bank exam in the U.S., one of the legacies of the   
   1980s thrift bust.    
   Notwithstanding the accounting fiction of SVB’s balance sheet, supervisors   
   knew that its securities holdings were of long durations and therefore   
   declining in value. SVB wasn’t just any bank. It and First Republic were the   
   two largest banks for which    
   the San Francisco Fed had primary supervisory responsibility.   
      
   SVB’s strategy was profiting from taking carry-trade risk, or borrowing   
   short and investing long. Its balance sheet looked more like that of a   
   money-market firm than a bank, with purportedly as much as 94% of its deposits   
   over the insurance limit. It    
   held much more in long-term securities than in loans. In December 2022, SVB   
   total securities’ book value was more than $123 billion and loans were only   
   $73.6 billion. It paid above market for wholesale deposits to fund its   
   carry-trade strategy. In 2022,   
    as interest rates rose and the market value of its assets fell, SVB’s   
   deposits fell $16 billion and it borrowed $15 billion from the Federal Home   
   Loan Bank at higher cost to replace lost deposits.   
      
   The composition of deposits also changed. Non-interest-bearing deposits fell   
   $45 billion, and interest-bearing deposits rose $29 billion. The increased   
   reliance on borrowed funds and the decline in retail deposits have been a red   
   flag of rising failure    
   risk for bank supervisors for at least 130 years. By December 2022, SVB had an   
   unrecognized loss of $24 billion on its hold-to-maturity securities combined   
   with a new reliance on hot money. In 2022, as interest rates rose, Fed   
   supervisors must have known    
   the bank was deeply under-capitalized and headed toward insolvency.   
      
   Instead of raising the deposit insurance limit or expanding supervisory   
   powers, Congress should require all assets held by banks to be marked to   
   market. It should also invite supervisors from the San Francisco Fed and other   
   agencies to explain why they    
   failed to act. Was there political pressure not to? If so, from whom? Congress   
   should press supervisors to intervene immediately to address similar problems   
   at the 200 or so banks that are to some degree suffering similar weaknesses,   
   rather than allowing    
   those problems to fester.   
      
   Congress also should note that the unprecedented federal spending spree   
   combined with accommodative monetary easing caused high inflation and forced   
   the Fed to respond with dramatic hikes in interest rates that caused the   
   losses at so many banks.    
   Unintended long-term costs from myopic policy actions are a major threat again   
   as Congress considers further expansion of deposit insurance.   
      
      
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