Federal Reserve Proposes Overhaul of Bank Supervision and Regulation

These regulatory changes can influence how banks manage risk and make lending decisions, potentially affecting credit availability for consumers and businesses during times of financial stress. While industry groups have welcomed certain aspects of the proposal, experts are skeptical about whether these changes will adequately address the issues that led to the collapse of Silicon Valley Bank in March 2023, marking the second-largest bank failure in U.S. history. The bank's failure was precipitated by rising interest rates that resulted in losses on its securities, worsened by a large number of uninsured deposits and poor risk management.

Bowman stated that the restructured organization will better align responsibility and accountability in decision-making within the supervisory workforce. Despite this, independent economist Xiangyi Meng expressed concerns regarding whether the restructuring effectively addresses the core issues that contributed to the failure of Silicon Valley Bank, noting the bank’s internal management of interest-rate risk as a significant factor. He remains doubtful about the efficacy of the new regional structure in improving Fed operations.

Similarly, Thomas Hoenig, former president of the Federal Reserve Bank of Kansas City, questioned the efficiency and effectiveness of consolidating supervision under the new regional model. He suggested that increased accountability for Reserve Bank presidents could lead to better supervision quality.

Bowman is also advocating for adjustments to fixed-dollar asset thresholds that determine regulatory requirements for banks, arguing these thresholds need to evolve with economic growth to avoid inappropriately categorizing smaller banks under more stringent regulations meant for larger institutions.

Furthermore, the Fed is reviewing its supervisory ratings, including the CAMELS system, to enhance the assessment of banks' financial condition and risk management. On September 30, the Fed finalized changes to stress testing, estimating a 50 percent reduction in year-over-year volatility in capital requirements. Bowman is in favor of relaxing certain capital requirements, including the enhanced supplementary leverage ratio for the largest banks, arguing that current standards deter them from holding Treasury securities.

The Bank Policy Institute and the American Bankers Association commended the recent changes to stress testing, while Hoenig cautioned that allowing banks to hold more government securities might increase their risk exposure in a rising interest rate environment. Meng noted that the changes could potentially allow banks to increase lending, though this would largely depend on economic conditions and demand for loans. He emphasized that the implementation of these new principles and rules in practice remains uncertain.