{"text":[[{"start":5.78,"text":"The writer is a professor of finance at the Stanford Graduate School of Business and a senior fellow at the Hoover Institution"}],[{"start":12.56,"text":"The postmortems into the collapse of Silicon Valley Bank prompted fresh thinking on how US banks should be supervised to reduce the risk of such failures."}],[{"start":21.34,"text":"The Federal Reserve released this month plans for an overhaul of US supervisory system. Michelle Bowman, the Fed’s vice-chair for supervision, deserves credit for digging deeper into the causes of SVB and other regional bank failures, commissioning an independent review. The turmoil could potentially have escalated into a much larger crisis."}],[{"start":41.54,"text":"The main crux of the review’s findings is that supervisors knew of various problems as early as 2022 — that SVB and some other banks were exposed to large interest rate risk and had a substantial proportion of uninsured depositors. This implied that a rise in interest rates would lower the value of bank assets, increasing the risk of a run on deposits. However, Fed supervisors did not take enough remedial action and the risks turned out to be very real. Thus, the 2023 collapse was not as much a problem of insufficient information as it was about supervisory will and courage to take tough decisions."}],[{"start":77.24,"text":"Supervision is a critical line of defence, along with capital, in regulating highly leveraged depository institutions. However, most of the focus in past decades has been on capital regulations such as the global standards known as Basel III."}],[{"start":91.42,"text":"The emphasis of the changes planned by Bowman is around clarifying lines of responsibility and ensuring the Fed focuses on big material risks. It argues for providing tools to supervisors that can allow them to flag problems earlier."}],[{"start":104.7,"text":"It also proposes to cut the layers of numerous supervisory committees and move to a structure with five regional supervisory leaders who might help take faster decisions on uncertain cases. Separately, two other regulatory bodies —the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corporation — have also proposed making it easier for banks to share certain supervisory information more widely. Such disclosure can provide additional discipline on when to act."}],[{"start":131.42,"text":"Reading the current report quickly might suggest that it contradicts Fed’s earlier 2023 review. After all, the current report lands on regulatory complexity as part of the reason for supervisory slowness around SVB’s bank run, while the earlier review leaned on looser regulatory requirements and increased burden of proof for harsh supervisory actions. Both reports, however, agree that supervisors waited too long to act on SVB. And there is a more fundamental issue that both reports identify — the pervasive cultural biases and incentives in favour of inaction."}],[{"start":167.26,"text":"Supervision inherently involves taking decisions under uncertainty, after information has been collected through examiners conducting bank exams and looking at data such as income statements and balance sheets. But no information is perfect and supervisors must act or decide to wait. However, the pay-offs from these choices are asymmetric."}],[{"start":188.26,"text":"On the one hand, if supervisors act, and turn out to be wrong, they might incur large personal costs and be brought into the crosshairs of politicians and bank management. On the other hand, if the supervisors wait, the problem or risk they are worried about might disappear. It might also not show up till much later, when attributing responsibility to someone might be harder. This asymmetry creates a bias towards forbearance or inaction. The stigma and career cost from failure are simply too high."}],[{"start":217.3,"text":"While there is some recognition of the problem in the Bowman report, the proposed reforms do not address this. A few further changes could help. AI could be used to change the default state by making inaction more visible. The technology should not replace valuable supervisory judgment but could analyse all the information that is gathered by supervisors and then flag whether risk has deteriorated materially. If supervisors then choose to wait, they would need to explain the reasons. This would make inaction a decision for which someone would be accountable."}],[{"start":248.74,"text":"There would also need to be a cultural change. If the Fed wants supervisors to develop a backbone to act, it must be willing to tolerate that some will get it wrong sometimes. Those supervisors who take reasonable decisions must be protected."}],[{"start":262.74,"text":"As we enter into an era where banks and other institutions are all using AI to figure out how they might game regulation, it is time for supervisory organisations to embrace AI too, bolstering the will of supervisors and regulators to act."}],[{"start":278.78,"text":""}]],"url":"https://audio.ftcn.net.cn/album/a_1793416867_8932.mp3"}