Governor Bowman’s Speech on Financial Regulatory Reform
On June 25, 2023, Governor Michelle W. Bowman of the US Federal Reserve Board (FRB) gave a speech[1] at the Salzburg Global Seminar on Global Turbulence and Financial Resilience reflecting her views on the way ahead for regulatory reform resulting from the series of bank failures across the United States in the spring of 2023, including Silicon Valley Bank (SVB), Signature Bank (Signature), and First Republic Bank.
As a result of these failures, Governor Bowman advised that a “set of reforms to supervision and regulation that are intended to remediate perceived shortcomings” was already in motion. Bowman agreed with such proposed policies as centering bank examinations around “core banking risks,” including a bank’s liquidity and risks associated with interest rates. However, Bowman posed that the agenda was based on a “set of limited reviews” that may result in polices based on faulty assumptions or incomplete information.
Bowman’s main concern with the progression of this agenda appeared to be that such policies could hinder a bank from being able to “adopt new and innovative technology.” As an alternative, Bowman advanced approaches which she believes would further the important advancement of “a responsive and responsible regulatory framework, including regulation and supervision.” A responsive framework would allow banks to “adapt[] quickly to changing economic conditions, changing business activities and models, and emerging risks.” A responsible framework is one which would “enable[] regulators to make changes that are informed by open debate and take into account intended and unintended consequences.”
At the outset, Bowman addressed the failures of SVB and Signature. According to Bowman, those failures were “not caused by any evolution in banking[,]” but by the failure of those banks to implement sufficient risk management practices to respond to the increase stress on their institutions.
There have been after-the-fact reviews of these banks’ actions leading up to the failure, but such reviews were done by a singular board member and the supervisory staff of the FRB. Bowman stated these potentially unreliable accounts have produced “a genuine question whether these efforts provide a sufficient accounting of what occurred.”
According to a report released by Michael Barr, the Federal Reserve Board Vice Chair for Supervision, analyzing the circumstance and causes of the US Bank's failure this year (the “Barr Report” or "Report")[2], one of the factors that contributed to SVB’s failure was the passage of the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA) in 2019, which resulted in lower capital and liquidity requirements for the failed banks under review, while also decreasing supervisory efficacy due to the FRB’s “tailor[ed] approach” to comply with the EGRRCPA.
Bowman believes that reliance on the existing reports as to these banks’ actions which were produced under concerning circumstances or compressed timeframes, such as the Barr Report, could result, not only in unnecessary mitigative efforts by financial institutions, but also “in real harm to banks and their customers, to the financial system, and to the broader economy.” As such, in Bowman’s view, one necessary next step is to engage independent third-party analysts who can “fully understand the factors and circumstances that contributed to the recent bank failures and to the ensuing stress in the banking system.”
Additionally, Governor Bowman critiqued the United States’ lack of a clear regulatory framework for innovative technologies and novel banking activities. She believes that, due to a lack of clarity surrounding permissible and prohibited actions in these emerging areas and clear supervisory expectations, financial institutions were left in a “supervisory void,” putting them at risk of enforcement and arbitrary supervision.
Bowman posed that any regulatory framework that should emerge from these failures should possess the basic principles of “transparency, accountability, efficiency, and due process.” Pursuant to the necessary efficiency, Bowman advised that the evaluation of the consequences of policy revisions and how these changes could “interact with the regulatory framework and the impact on the broader financial system.” One way that she proposes this be done is by increased timeframes to receive public commentary from industry participants and stakeholders following public FRB meetings that would “promote accountability by allowing interested parties to hear the discussion and debate among policymakers on matters that directly affect them.”
Bowman recommended the following elements be considered in drafting regulatory reform:
Availability of Products – Banks could incur higher costs to comply with the regulatory requirements, which would be passed on to consumers and may result in a decrease in the availability of certain products and services for consumers and an increased concentration of risks among competitors that remain in certain product markets.
Regulatory Reform and the Banking Landscape – being that these regulatory reforms are being proposed in response to these bank failures, Bowman is concerned that the regulators may create reform based on those certain circumstances that led to the failure, rather than considering the overall landscape of the banking industry and the impact those reforms may have on it. “[W]e should not assume that the banking system would remain static in response to uniform higher regulatory standards across institutions of dramatically different sizes, complexity, business models, and risk.”
The Potential Impact of Risk-Insensitive Regulatory Reform on Banks and Competition – “Under the weight of overly burdensome or redundant regulation, the business models of some banks may simply cease to be viable. Many banks would be unable to operate under the weight of increased compliance costs. Of course, the banking system cannot tolerate unlimited risk, and regulatory policy bears within it the choice about how much risk is appropriate within the banking system. While conservatism, and ensuring safety and soundness, may be appropriate to some degree, at a certain point regulatory requirements become unmoored from risk and force good banks out of the market.