`[Senate Hearing 118-444]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 118-444

                  STRENGTHENING ACCOUNTABILITY AT THE
         FEDERAL RESERVE: LESSONS AND OPPORTUNITIES FOR REFORM

=======================================================================

                                HEARING

                               before the

                            SUBCOMMITTEE ON
                            ECONOMIC POLICY

                                 of the

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                    ONE HUNDRED EIGHTEENTH CONGRESS

                             FIRST SESSION

                                   ON

     EXAMINING LESSONS AND OPPORTUNITIES FOR FEDERAL RESERVE REFORM

                               __________


                              MAY 17, 2023

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs






                 [GRAPHIC NOT AVAILABLE IN TIFF FORMAT]







                Available at: https: //www.govinfo.gov /

                               ______
                                 

                 U.S. GOVERNMENT PUBLISHING OFFICE

57-091 PDF                WASHINGTON : 2024











            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

                       SHERROD BROWN, Ohio, Chair

JACK REED, Rhode Island              TIM SCOTT, South Carolina
ROBERT MENENDEZ, New Jersey          MIKE CRAPO, Idaho
JON TESTER, Montana                  MIKE ROUNDS, South Dakota
MARK R. WARNER, Virginia             THOM TILLIS, North Carolina
ELIZABETH WARREN, Massachusetts      JOHN KENNEDY, Louisiana
CHRIS VAN HOLLEN, Maryland           BILL HAGERTY, Tennessee
CATHERINE CORTEZ MASTO, Nevada       CYNTHIA M. LUMMIS, Wyoming
TINA SMITH, Minnesota                J.D. VANCE, Ohio
KYRSTEN SINEMA, Arizona              KATIE BOYD BRITT, Alabama
RAPHAEL G.WARNOCK, Georgia           KEVIN CRAMER, North Dakota
JOHN FETTERMAN, Pennsylvania         STEVE DAINES, Montana

                     Laura Swanson, Staff Director

               Lila Nieves-Lee, Republican Staff Director

                       Elisha Tuku, Chief Counsel

                  Amber Beck, Republican Chief Counsel

                      Cameron Ricker, Chief Clerk

                      Shelvin Simmons, IT Director

                       Pat Lally, Assistant Clerk

                                 ______

                    Subcommittee on Economic Policy

                 ELIZABETH WARREN, Massachusetts, Chair

                JOHN KENNEDY, Louisiana, Ranking Member

JACK REED, Rhode Island              MIKE ROUNDS, South Dakota
ROBERT MENENDEZ, New Jersey          THOM TILLIS, North Carolina
CHRIS VAN HOLLEN, Maryland           CYNTHIA M. LUMMIS, Wyoming
TINA SMITH, Minnesota                STEVE DAINES, Montana
JOHN FETTERMAN, Pennsylvania

              Gabrielle Elul, Subcommittee Staff Director

        Jennifer Newman, Republican Subcommittee Staff Director

                                  (ii)









                            C O N T E N T S

                              ----------                              

                        WEDNESDAY, MAY 17, 2023

                                                                   Page

Opening statement of Chair Warren................................     1
    Prepared statement...........................................    31

                               WITNESSES

Mark Bialek, Inspector General, Board of Governors of the Federal 
  Reserve System and the Consumer Financial Protection Bureau....     3
    Prepared statement...........................................    32
    Responses to written questions of:
        Senator Rounds...........................................    86
Peter Conti-Brown, Class of 1965 Associate Professor of Financial 
  Regulation, Associate Professor of Legal Studies and Business 
  Ethics, The Wharton School of the University of Pennsylvania...    17
    Prepared statement...........................................    38
    Responses to written questions of:
        Senator Kennedy..........................................    86
Paul H. Kupiec, Senior Fellow, American Enterprise Institute.....    19
    Prepared statement...........................................    43
    Responses to written questions of:
        Senator Kennedy..........................................    87
Mayra Rodriguez Valladares, Managing Principal, MRV Associates...    21
    Prepared statement...........................................    59

              Additional Material Supplied for the Record

Statement submitted by Dennis M. Kelleher, President and CEO of 
  Better Markets, Inc............................................    90

                                 (iii)









 
                  STRENGTHENING ACCOUNTABILITY AT THE
         FEDERAL RESERVE: LESSONS AND OPPORTUNITIES FOR REFORM

                              ----------                              


                        WEDNESDAY, MAY 17, 2023

                               U.S. Senate,
  Committee on Banking, Housing, and Urban Affairs,
                           Subcommittee on Economic Policy,
                                                    Washington, DC.
    The Subcommittee met at 2:30 p.m., in room 538, Dirksen 
Senate Office Building, Hon. Elizabeth Warren, Chair of the 
Subcommittee, presiding.

          OPENING STATEMENT OF CHAIR ELIZABETH WARREN

    Chair Warren. Welcome to the hearing of the Senate Banking, 
Housing, and Urban Affairs Subcommittee on Economic Policy.
    The rapid collapse of three banks--Silicon Valley Bank, 
Signature Bank, and First Republic Bank--was a shock. These 
three bank failures together put more assets at risk than the 
25 bank failures in the 2008 crash.
    Silicon Valley Bank's failure was another symptom in what 
has become a predictable string of failures in the governance 
of the Federal Reserve. SVB's collapse and the other bank 
failures it triggered forced the FDIC, the Treasury Department, 
and other regulators to rush to the rescue to avoid implosion 
of our banking system. So far, the FDIC Insurance Fund has 
suffered billions of dollars of losses, and, as a result of the 
bailouts, America's biggest too-big-to-fail bank just got $200 
billion bigger.
    The failure of those banks was a first-order management 
disaster. Same old story: the executives took too much risk, 
got too greedy, and blew up their banks. Those executives need 
to be held accountable, and I am working on bipartisan 
legislation to claw back money when executives take big bonuses 
for blowing up their banks.
    But look deeper. The implosion of all three banks is rooted 
in the failure of those banks' regulators and supervisors, most 
notably, the Federal Reserve. The Fed's own report on the SVB 
failure identified problems high and low, finding that as SVB 
got bigger and bigger, the Fed's Board of Governors, under the 
direct leadership of Jerome Powell, weakened banking 
regulations. This is exactly the kind of deregulatory shift I 
warned about in 2018, when I opposed Powell's nomination as Fed 
Chair and again in 2021, when I said that he was a dangerous 
man to keep at the Fed.
    Notably, the Fed's report also laid blame at the feet of 
Congress for passing legislation to weaken bank rules, an 
agenda that Chair Powell eagerly endorsed.
    The Fed's report also found that bank examiners at the San 
Francisco Fed, which was SVB's regulator on the ground, 
followed orders from the Fed and backed off, allowing SVB's 
executives to pile on more and more risk. Now the San Francisco 
Fed and the Board of Governors are pointing fingers at each 
other, playing a pathetic game of ``not it'' while they each 
try to deny accountability.
    The Fed is independent within the Government and needs to 
maintain that independence when it comes to doing its primary 
job of setting interest rates. Independence should not be 
conflated, however, with a total lack of accountability when 
the Fed and its leadership make serious mistakes. 
Unfortunately, the Fed has faced little accountability. In 
recent years, a growing list of scandals has tarnished the 
Fed's reputation and its credibility.
    In 2021, high-level Fed officials were embroiled in a 
scandal involving stock and other financial trades made even as 
the Fed took extraordinary action to right the economy during 
the COVID pandemic. The Fed responded with a sham investigation 
by the Fed's own inspector general, an official hired and fired 
by the Fed itself. This investigation failed to look into key 
aspects of the scandal. Even when the Fed IG found that there 
was improper trading in Chair Powell's accounts, it imposed no 
consequences.
    And when Congress tried to get information from the Fed 
Board and from the regional Reserve Banks on the scope of this 
scandal and the response, we got the cold shoulder. The Fed 
simply refused to turn over key documents and information to 
Congress and stopped any outside investigation in its tracks.
    That is not all. Reports have surfaced about Fed leadership 
giving secret speeches and sensitive information to bankers and 
bankers' wealthy clients. We learned that--unbelievably--the 
President of SVB sat on the Board of the San Francisco Fed up 
until the day the bank failed.
    The culture of corruption at the Fed has already undermined 
the Fed's credibility with the American public, and the hearing 
today will discuss proposals that would make the Fed more 
transparent and accountable in order to help restore some of 
that credibility.
    I have got an idea, a bipartisan idea that I am introducing 
with Senator Rick Scott today: get the big bankers off the 
Federal Reserve boards of directors.
    And there is more. Senator Scott and I also introduced a 
bill, which was included in a separate bill with Senator 
Tillis, to give the Fed a true, Senate-confirmed independent 
inspector general to serve as an agency watchdog.
    Mark Bialek, the current Fed IG, is here today. Mr. Bialek, 
I appreciate your joining us, because I know you have a busy 
schedule. And I want you to know that my concern about your 
current role is not personal. My concern is institutional. You 
were chosen by then-Fed Chairman Ben Bernanke in 2011, and you 
serve today at the discretion of Chair Powell and the board. In 
other words, you are supposed to be the watchdog of exactly the 
people who hired you and who have the power to fire you. That 
dynamic tends to create watchdogs that do not bark.
    At best, you are in an impossible, compromised position 
when it comes to investigating wrongdoing at the Fed. To 
restore public confidence in the Fed, we need a strong, Senate-
confirmed inspector general to conduct rigorous, independent 
oversight.
    I appreciate your joining us today, and I look forward to 
discussing these and other matters.
    So we are now ready for your opening statement, Mr. Bialek.

STATEMENT OF MARK BIALEK, INSPECTOR GENERAL, BOARD OF GOVERNORS 
   OF THE FEDERAL RESERVE SYSTEM AND THE CONSUMER FINANCIAL 
                       PROTECTION BUREAU

    Mr. Bialek. Thank you and good afternoon, Chair Warren, 
Senator Scott, Members of the Subcommittee. I am Mark Bialek, 
the Inspector General of the Federal Reserve Board and the 
Consumer Financial Protection Bureau. I very much appreciate 
the opportunity to be here today to discuss oversight and 
accountability for the board.
    In response to the disclosure of questionable trades by 
board and Federal Reserve bank officials, our office did 
initiate separate investigations of these officials as well as 
an evaluation of the board's new trading rules that were put 
into place. We expanded our investigation of board officials to 
include Chair Powell's trading activities, based on public 
reporting.
    As soon as it was closed last summer, we released our 
investigative findings regarding the trades of board officials, 
including Chair Powell. However, we did not release the details 
of our investigative steps and techniques because we must 
protect the integrity of our other ongoing and closely related 
ethnics investigations of senior Federal Reserve bank 
officials.
    I understand there is criticism about the independence and 
thoroughness of our ethics investigation of senior board 
officials, given the limited information that we disclosed. But 
I want to emphasize that we independently and thoroughly 
investigated this matter. We pursued the facts wherever and to 
whomever they led. We did not just take people's word for what 
was told to us about the activities. Rather, we thoroughly 
reviewed relevant records, including over 3 million emails, 
financial disclosure reports, trading data, brokerage 
statements, for all of the relevant trading activities. We also 
consulted with OGE, the Office of Government Ethics, which is 
the Federal Government expert on Government ethics.
    All of this factored into our findings and our 
recommendations that we released, and I stand by our work. Once 
we conclude our investigation of Federal Reserve bank officials 
I am confident that we will be in a position to provide a 
detailed explanation behind the determination of our 
investigative results.
    To reform Federal Reserve oversight, legislation has been 
proposed to convert our office, as you mentioned, to a 
presidentially appointed and Senate-confirmed position. This is 
ultimately, of course, a matter for Congress to decide. I just 
want to emphasize that under our current structure we have the 
same authorities as other IGs to audit and investigate without 
interference from our agency head. We have unfettered access to 
all agency records and documents, subpoena authority, law 
enforcement powers such as executing search and arrest 
warrants, and the ability to hire our own staff and control our 
own resources. We have the same reporting mechanisms at our 
disposal if attempts are made to resist or object to our 
oversight activities or to significantly delay our access to 
information.
    In conclusion, we exercise our independence most directly 
in how we perform our work. Determinations on audits and 
evaluations and investigations we conduct are made by us alone. 
No board Chair has resisted or objected to our oversight work 
since I have been the IG. If that were to happen, I would not 
hesitate to report that to Congress.
    The breadth and impact of our work is solely attributable 
to the OIG staff, who dedicate themselves to doing the hard 
work of developing independent findings and recommendations to 
ensure that the board is held accountable and operates 
effectively. I am so very proud and thankful for the work they 
do every day.
    Congress is a key stakeholder for us, and of course we 
always welcome your feedback on risk areas that you see facing 
the board or the CFPB.
    This concludes my statement, and I would be pleased to 
respond to any of your questions.
    Chair Warren. Thank you. Senator Lummis.
    Senator Lummis. Thank you, Madam Chair. This year we have 
seen the collapse of America's 14th-largest bank, First 
Republic, and the 16th-largest bank, Silicon Valley Bank. These 
collapses have been due to failure by bank executives to manage 
the risks of their institutions. We have also seen regulators 
fail to effectively supervise each institution and fail to 
escalate concerns until they are resolved.
    I am proud to cosponsor the Financial Regulators 
Transparency Act with Chair Warren and Senators Rounds and 
Tillis on this Subcommittee. It will be bring much-needed 
reforms to strengthen accountability of the Federal Reserve. 
For example, regional Federal Reserve banks would be subject of 
the Freedom of Information Act, an essential tool for 
Government accountability, and I think this is tremendously 
important to the public as well as to Members of Congress. It 
has been a true source of frustration for us that our letters 
requesting information go unaddressed and unanswered.
    Mr. Bialek, the Fed's OIG is required to complete a review 
of the agency's supervision of a failed institution when there 
is a material projected loss to the Deposit Insurance Fund. So 
when can we expect a report on recent bank failures?
    Mr. Bialek. Thank you for the question, Senator. We opened 
up a review of SVB. Of the three banks that you mentioned, that 
is the only one that is supervised and regulated by the Fed. 
The other two are supervised and regulated by the FDIC. So as 
it relates to SVB, once we heard about the condition it was in 
and the likely failure at the time, back in mid-March, we 
opened up a review, anticipating that there would be a failure 
declared, which it was last Friday, and the amount, and that 
turns into the Material Loss Review then that you mentioned.
    But because we got a jump-start on it in March, we are now 
projecting and promising to complete this review by September 
of this year. We are doing a deep dive into all of the issues 
that have been bandied about, in the media and elsewhere in 
hearings, about the issues, the likeliest root causes of the 
failure, the supervisory actions or inactions that also led to 
this condition that we find ourselves in.
    So we are in the midst of that review right now.
    Senator Lummis. Thank you. You have already answered my 
next couple of questions, so I appreciate it very much.
    There are 51 open recommendations that the OIG has made to 
the Board of Governors. A dozen have been open for more than 5 
years, and one stretches back to 2016, meaning the Fed has had 
years to address concerns your office has identified and has 
not taken action.
    So I doubt the Federal supervision staff would be happy 
about a member institution that has an unaddressed MRA or MRIA 
from 2016. Has the Fed board committed to closing all open 
issues?
    Mr. Bialek. Well, let's make sure we are talking about the 
same thing. In terms of our open recommendations, if you were 
referring to the IG's open recommendations, that is something 
that we have ongoing discussions with the responsible officials 
at the Fed to assure ourselves that they are taking action in a 
timely way to address those types of recommendations.
    Many of them, and I think the oldest of the ones you are 
referring to, Senator, they are interagency rules, and so they 
have to get the consent, the agreement of other agencies in 
order to implement, but have informed us that they are going 
about that process and are themselves ready to commit.
    If you are talking about recommendations of the supervisors 
about banks, that is a different issue.
    Senator Lummis. I am also interested in the open issues 
that are nonpublic. So could any of those nonpublic open issues 
have contributed to the Fed's failures in supervising SVB?
    Mr. Bialek. I do not believe so. What I believe is that our 
nonpublic open recommendations deal typically with IT security, 
sensitive access IT, cybersecurity related matters, and that is 
why they are not public, not kind of supervisory 
recommendations that relate to SVB.
    Senator Lummis. In 2021, your office found that the Fed had 
not established an effective enterprise risk management 
governance structure and that a majority of members of the 
Senior Officer Committee disagreed that there were clear lines 
of responsibility and authority for risk management within the 
Fed. And I will have you answer this question later because we 
have got a number of people that want to ask questions, and I 
need to go vote.
    The question is, where is the Fed on implementing its own 
effective risk management program? You can choose to answer 
now, or I can follow up with you later.
    Mr. Bialek. I would be happy to follow up with you later.
    Senator Lummis. Perfect. Thank you very much. Madam 
Chairman, I yield back. Thank you so much.
    Chair Warren. Thank you, Senator Lummis. Senator Scott.
    Senator Scott. Thank you, and thank you for the opportunity 
to be here, and Mr. Bialek, thank you for being here.
    What year did you start at the Fed?
    Mr. Bialek. In 2011.
    Senator Scott. All right. Between '08, '09, and '10, how 
many bank failures were there in the country? Do you know?
    Mr. Bialek. Between----
    Senator Scott. Between 2008, 2009----
    Mr. Bialek. Oh, before I got there? I cannot give you an 
exact number, sir.
    Senator Scott. Once you got there, would you agree that if 
there is a bank failure that the Federal Reserve probably has 
some responsibility?
    Mr. Bialek. If it is a bank that they supervise or 
regulate? Sure.
    Senator Scott. So in 2008, 2009, 2010, there were banks 
that the Federal Reserve was responsible for that failed, 
right?
    Mr. Bialek. Yes.
    Senator Scott. So since you have been there, have you done 
any review of why those banks failed and any failures of the 
Federal Reserve?
    Mr. Bialek. My predecessor would have done those at the 
time.
    Senator Scott. But you have not done any since you got 
there.
    Mr. Bialek. We have done, but I think there was one MLR a 
bunch of years ago, but nothing significant and nothing recent.
    Senator Scott. How many banks that the Federal Reserve was 
responsible for have failed since you have been there?
    Mr. Bialek. I am sorry. How many----
    Senator Scott. How many banks have failed since you have 
been there?
    Mr. Bialek. Less than a handful, I think.
    Senator Scott. OK. So let's say 6. Do you think that is the 
right number?
    Mr. Bialek. That would be a guess. I really want to look 
into it and get you an exact number. I do not want to mislead 
the Committee.
    Senator Scott. So let's say it is 6. How many reports have 
you done that anybody was fired because they failed to do their 
job?
    Mr. Bialek. I cannot answer that question.
    Senator Scott. Does that mean none?
    Mr. Bialek. I cannot answer. I do not know.
    Senator Scott. Do you know of any?
    Mr. Bialek. I am not aware of any, no.
    Senator Scott. OK. So as far as you know, of bank failures, 
of any reports that you have been done, no one has been fired.
    Mr. Bialek. None that I have heard of.
    Senator Scott. OK. So with regard to the stock disclosure, 
that there was an accusation of insider trading, you have done 
some reports, but you have not released that publicly yet, 
right, all of it?
    Mr. Bialek. Correct.
    Senator Scott. Has anyone been fired?
    Mr. Bialek. There are two matters that we have closed out. 
There are three matters that are still open, ongoing 
investigations.
    Senator Scott. Was anybody fired?
    Mr. Bialek. Not that I am aware of. I do not know. I would 
not necessarily know.
    Senator Scott. OK. So why would you not know?
    Mr. Bialek. Well, we provide our work and issue our 
reports, and----
    Senator Scott. You do not follow up?
    Mr. Bialek. ----the two reports that we issue, or the one 
report that we issued on the two investigations that we closed 
out did not have findings of wrongdoing, so I would not expect 
there to be the kinds of actions that you are referring to.
    Senator Scott. OK. All right. I have been up here 4 years. 
For the first time since I have been up here, with that 
unsolicited, a Federal employee wrote me a letter, Senator 
Warren and me a letter, saying he just liked our idea of having 
a presidential-appointed inspector general. All right. So first 
off, that surprised me. So first, did you tell Chairman Powell 
that you were doing this?
    Mr. Bialek. No, I did not.
    Senator Scott. Did he say anything to you after you did it?
    Mr. Bialek. No, he did not.
    Senator Scott. Did you talk to anybody at the Federal 
Reserve, or you just did it completely on your own?
    Mr. Bialek. I did.
    Senator Scott. OK. So you believe that you can adequately 
do your job when you report to the same people you are supposed 
to review.
    Mr. Bialek. Senator, as you may know, the concept of DFEIG, 
Designated Federal Entity IG, of which I am one--there are 
about 30--almost half of the IG community are IGs appointed by 
their agency heads. The others are the PAS, presidential 
appointees, subject to Senate confirmation. There are 
differences of view within the oversight community about 
whether the mere appointment authority of a DFEIG provides some 
question about their independence because the person----
    Senator Scott. I mean, if Chairman Powell can fire you, you 
are going to go--let me ask you a question. Have you done a 
review of any member of the Federal Reserve board and ever said 
anybody on the Federal Reserve board, anybody, has ever done 
anything wrong?
    Mr. Bialek. We have investigations going on all the time 
where we find wrongdoing. And if I can, Senator, we lined up 
deciding to do our investigations completely on our own, 
without any input from anybody. Nobody has attempted to try to 
prevent us from doing any of our investigations. And the fact 
that the IG here, along with all of the other DFEIGs, can be 
removed by their agency head is a part of the fabric of the 
community. Here, at the Federal Reserve, there is an additional 
protection, if you will, if you believe this a protection, that 
it is not the Federal Reserve board Chair who can remove the 
IG. It has got to be based on a vote of two-thirds, a super-
majority, of the entire board.
    Senator Scott. Can I ask you a question? Since you have 
been there, how many times has the Chairman of the Federal 
Reserve proposed something at a board meeting and it did not 
happen?
    Mr. Bialek. I cannot answer that.
    Senator Scott. Yeah, probably not. Can I ask one more 
question?
    Chair Warren. Sure. Of course.
    Senator Scott. So you suggested in there that you make 
$350,000 a year, and you suggested if we went back to the pay 
scale for the president-appointed inspectors general we would 
not get competent people. That is what you said in your letter. 
So does that mean that the inspectors general that we have that 
are presidentially appointed, you do not think we are getting 
the competent people to do the job?
    Mr. Bialek. What I was referring to, Senator, in that 
letter was simply that the future, the eventual IG, should this 
position be converted into a PASIG, would be making 
significantly less than the current arrangement is, and that 
puts them at a certain comparison, vis-a-vis the rest of the 
Federal Reserve board executive leadership, which the statute, 
the IG Act, set up as the appropriate pay scale for DFEIGs.
    Senator Scott. So if we get this legislation passed, and 
the pay scale goes down to a little over $200,000, will you 
quit?
    Mr. Bialek. I honestly have not made that choice or 
decision. I have not thought about it.
    Senator Scott. OK. But just let me finish. So think about 
it. There are 23,000 people, I think, that work at the Federal 
Reserve. There is not a report that you have done, since 2011, 
that you know of any person that has been fired. There is 
nobody at the Federal Reserve on the board that has ever done 
anything wrong. We do not have any good information on what 
happened on the stock trades. And you think that we should be 
happy that we do not have an independent, presidentially 
appointed inspector general. I mean, this does not make any 
sense, and this has got a balance sheet of $8.6 trillion, and 
in the last 12 months the Federal Reserve has lost $500 
billion.
    I mean, name another agency that has that big a balance 
sheet in the Federal Government?
    Mr. Bialek. If I can clarify something, Senator. You were 
asking about what happens as a result of our audits and 
evaluations and bank failures. That is what I said I could not 
cite for you numbers of folks who have been fired. I did also 
say we conduct investigations all the time, and there have been 
people fired as a result of our investigations. That is a 
separate workload for us.
    Senator Scott. Can you get me a report? I have not found 
one person, if you go back to the 2008 financial crisis, and 
you go through what has happened this year, I have never heard 
of one person, one person at the Federal Reserve, that lost 
their job. Clearly these banks did the wrong thing, but 
somebody at the Federal Reserve that was responsible for these 
banks, for supervision, clearly did it wrong. And guess who 
pays for it? The average person in America pays for all this.
    These bailouts are ridiculous, and we have been doing it 
for decades, and it should stop.
    Thank you.
    Chair Warren. Thank you, Senator Scott.
    So I recognize myself now for the first round of questions, 
and I want to say thank you for being here, Mr. Bialek. I 
appreciate you being here.
    The Fed touches the lives of nearly every family in 
America, from influencing whether or not they can afford to buy 
a home, keep a job, afford the interest rate on their credit 
cards, and know that the money in their checking accounts is 
safe.
    The Office of the Inspector General is essential to making 
sure that the Federal Reserve does its job with integrity. So 
the mission of the IG is to provide independent oversight of 
the activities of the Federal Reserve Chair and the board, 
including by, quote, ``conducting audits, investigations, and 
other reviews.''
    So let's just set it up on the record here. We have talked 
some about it. Mr. Bialek, who appointed you as Fed IG?
    Mr. Bialek. Former Chairman Bernanke.
    Chair Warren. OK. And who has the power to fire you?
    Mr. Bialek. A two-thirds vote of the present Board of 
Governors.
    Chair Warren. So it is the Board of Governors and the Fed 
Chair, right, together?
    Mr. Bialek. He is part of the board.
    Chair Warren. OK. So your job is to conduct independent 
oversight of the Federal Reserve board, exactly the board that 
has the power to hire and fire you.
    Mr. Bialek. As is the case with all DFEIGs.
    Chair Warren. Well, but that is yours.
    You know, I noticed earlier that you said no one has ever 
tried to interfere with any of your investigations, but has 
there ever been a single day that you woke up not remembering 
who has the power to fire you?
    Mr. Bialek. I do not think about that.
    Chair Warren. Yeah, I am sure you do not.
    You know, the inspectors general at nearly all of the 
Cabinet-level agencies have a very different IG structure. 
Those IGs are nominated by the President and confirmed by the 
Senate, precisely so that they retain independence from the 
agency that they are obligated to oversee. They are not hired 
and fired by the head of the agency and a board within the 
agency. And that is why, 20 years ago, the Government 
Accountability Office specifically recommended that Congress 
make the Fed IG a Senate-confirmed position.
    Now I think it is long past time that Congress finally 
acts, and I have bipartisan legislation with Senator Scott to 
do that. This language is also included in a bill that I lead 
with Senator Tillis and Senator Lummis.
    But Mr. Bialek, you stated in a letter that you sent to 
Senator Scott and me a few weeks ago that you oppose this 
legislation, and in it you raised concerns that Senator Scott 
just highlighted as well, that if the IG's Office becomes a 
Senate-confirmed position there will be, and I quote, 
``difficulty in attracting quality candidates for the 
position,'' because, among other things, the salary would have 
to follow the executive pay scale for all those other Cabinet-
level IGs, which would be about $200,000.
    So just so we get it on the record, how much is your 
salary, Mr. Bialek?
    Mr. Bialek. It is an average of the current division 
directors and other executives in the agency----
    Chair Warren. I just need a dollar figure.
    Mr. Bialek. ----their salary and bonus, and that comes out 
to $377,800-and-some-odd dollars.
    Chair Warren. OK. So about $378,000 annually. You realize 
that makes you the highest paid employee at the Fed, and, in 
fact, one of the highest paid officials in the entire Federal 
Government. And I understand why you would not want to give 
that up. You know, this is a pretty cushy gig. You get paid a 
lot of money for it. But I do not believe that your self-
interest should outweigh the importance of good governance and 
independent governance at the Fed.
    There has been one scandal after another at the Fed for the 
last 2 years, and these are a great example of why the Fed 
needs an independent watchdog to keep an eye on the agency. We 
need to fix the Fed inspector general to make sure that the 
office is truly independent and can do its job.
    Senator Kennedy.
    Senator Kennedy. Thank you, Madam Chair. General, welcome.
    Help me. I tried to listen carefully to my colleagues, but 
I am still a little bit confused. You have been IG since 2011, 
and you do a lot of internal investigations. In other words, 
did some particular employee at the Fed not do their job. Is 
that correct?
    Mr. Bialek. Yes.
    Senator Kennedy. About how many of those do you think you 
have done?
    Mr. Bialek. Well, in terms of investigations of potential 
misconduct or wrongdoing we have typically had a running 
average of about 60 or 70 of those. Obviously, the pandemic----
    Senator Kennedy. Is that total--60 or 70 a year?
    Mr. Bialek. No. At any point in time.
    Senator Kennedy. OK.
    Mr. Bialek. Many of them are closed. New ones come in 
through our hotline, which we open up. But that is typically a 
rough gauge for how many investigations we have pending.
    Senator Kennedy. So since you have been there, in 2011--
again, I am talking internal investigations--would 500 sound 
right?
    Mr. Bialek. I would have to look into it. I do not want to 
give you a number that is inaccurate.
    Senator Kennedy. Oh no. I am not going to hold you to it. 
Is it more? Do you think it is more than 500?
    Mr. Bialek. I would like to look into it and get you an 
exact number.
    Senator Kennedy. OK. And what percentage of the cases, just 
ballpark, do you find wrongdoing?
    Mr. Bialek. Again, it would be a wild guess, and I am not 
comfortable giving one to you, but we can certainly look into 
that and develop those numbers for you.
    Senator Kennedy. Frankly, I would have thought you would 
have that before you came today. Do you think it is more than 
half?
    Mr. Bialek. No, I would not think so.
    Senator Kennedy. More than a quarter?
    Mr. Bialek. That is where I am uncomfortable----
    Senator Kennedy. Well, does it happen frequently that you 
find wrongdoing, or infrequently?
    Mr. Bialek. It is not infrequent.
    Senator Kennedy. It is not infrequent?
    Mr. Bialek. Mm-hmm.
    Senator Kennedy. OK. Fine. And when you find wrongdoing, 
are the people who committed the wrongdoing, according to your 
report, fired?
    Mr. Bialek. Sometimes.
    Senator Kennedy. OK. What percentage are fired?
    Mr. Bialek. Again, sir, I would like to get you a specific 
number, if that is what you would like.
    Senator Kennedy. Yeah. I think if you could get us that 
number, and perhaps we can do this again. Because I think 
people have the right to know that. I mean, I do not want to 
pick on the Federal Reserve. I just want to treat them like 
everybody else. And my sense is, and I think your numbers can 
prove or disprove this, but my sense is that it is easier to 
divorce your spouse than get fired at the Federal Reserve. And 
if that is the case, we are entitled to know that. That is a 
lot of money over there. And that is not a criticism of 
anybody.
    Tell me again about your salary. It is the average of what?
    Mr. Bialek. It is the average of both the salary and the 
bonus that is attributed to the other individuals who are 
similarly situated in terms of the organizational structure, 
which for me is the division director level. So there are 12 
other individuals, and it is the average of their salary plus 
bonus.
    Senator Kennedy. OK. So there are about 13 of you, and your 
salary is set on the average of the 13.
    Mr. Bialek. That is the case for all DFEIGs. That is in the 
IG Act as the formula to be used.
    Senator Kennedy. I am just asking. Are the others set that 
way too?
    Mr. Bialek. The other----
    Senator Kennedy. The 12 other ones whose salaries are used 
to get your salary.
    Mr. Bialek. I am not aware of how those are established.
    Senator Kennedy. OK. And do you get a bonus?
    Mr. Bialek. No, I do not.
    Senator Kennedy. OK. Do the others get a bonus?
    Mr. Bialek. Yes. That is part of that average that I 
mentioned.
    Senator Kennedy. OK. Do all 12 of the others get a bonus?
    Mr. Bialek. I do not know the answer to that.
    Senator Kennedy. Do they get a bonus when they say 
inflation is transitory and it is not? Do they still get their 
bonus?
    Mr. Bialek. I do not have the answer to that.
    Senator Kennedy. OK. How do we get that information?
    Mr. Bialek. Request it from the Federal Reserve folks.
    Senator Kennedy. How about we call the IG? Can you get it 
for us?
    Mr. Bialek. IGs should not be in the position of getting 
information to turn over if we are not otherwise engaged in an 
audit or evaluation or investigation.
    Senator Kennedy. If I could have 30 more seconds.
    Chair Warren. Of course you can.
    Senator Kennedy. I know you are in the process of looking 
at the bank failures, and I do not want you to--I am not trying 
to put you on the spot because you do not know yet. But, you 
know, I find two things ironic. Maybe ``irony'' is the wrong 
word to use. But as a result of these basic--well, strike that.
    It seems that ever since the Great Recession we have been 
very concerned, as we should be, about banks that are too big 
to fail. Big is dangerous. I am not against big. I am against 
dumb. But if you have an institution that is really, really 
big, and it does something dumb, it hurts a lot of people. 
Nobody ever goes to jail, but that is a separate story.
    But it looks to me like, as a result of these recent 
failures, that our big banks are getting bigger, and I find 
that ironic. Again, that may be the wrong word. I do not know 
if you are going to look at that in your studies.
    Mr. Bialek. Well, Senator, that strikes me as being a 
straight-ahead policy issue where the Federal Reserve board 
decides what rules of engagement for the supervision of banks 
of different sizes, tailoring. All of those are supervisory, 
policy-based decisions----
    Senator Kennedy. I know, but----
    Mr. Bialek. ----and the IGs are prohibited from getting 
involved in overseeing policy.
    Senator Kennedy. Senator Warren and I may disagree on this. 
We disagree a lot, but we still like each other. But see, if I 
asked Mr. Barr that question, I think the answer I am going to 
get is, look, the problem with the bank failures is that the 
management did dumb things, and they were incompetent, and 
yeah, some of my regulators were not as proactive as they 
should have been, but it is Trump's fault. Trump ate my 
homework. And I do not think that is a candid assessment of the 
situation.
    The other thing that I find curious--and I am going to ask 
Mr. Barr about this--traditionally, when banks get in trouble, 
you do not go out and shout it, you know, ``We are in 
trouble.'' They call their regulators and say, ``We have got a 
problem here.'' Or the regulators spot it and they go in. And 
to prevent a bank run or panic, they handle it quietly. And the 
regulators will call around with other banks that are healthier 
and say, ``Can we effect a marriage here?'' And that does not 
seem to be what is happening. And as a result, the healthy 
banks that would normally come in and help, for a price, a fair 
price, and help the failed bank, the healthy banks, they are 
pretty smart. They are waiting. They are going, ``No, we do not 
want to come in too early. Let's let them go under, and then we 
will come in and we will get a great deal, and the taxpayers 
will have to guarantee all our potential losses.''
    Can you look into that? Because if I asked Mr. Barr, God 
bless him, he is just going to say, ``It is the fault of the 
bank presidents and Trump ate my homework.'' So I am looking 
for somebody who can help us answer those.
    Mr. Bialek. To the extent that you are asking, Senator 
about the process of once a bank fails what does the Fed, what 
does the FDIC do, in terms of trying to get another bank to 
come in and take over or buy its operations, that would be kind 
of post-failure, so that would not be part of our current 
review, Material Loss Reviews. But we can consider looking into 
that kind of post-failure issues like that or discussions that 
may have been had with the other financial regulators.
    Senator Kennedy. I am taking too long, but here is what I 
am getting to, and this is not a criticism of JPMorgan or Mr. 
Dimon. I have great respect for both of them. But you know the 
deal they made is a good deal. I am not suggesting that they 
should not have made a good deal for their shareholders. But 
the truth is the deal was so good, if we still had White Pages, 
you could open up the White Pages, put your hand over your 
eyes, and pick a name and say, ``We are giving you this deal,'' 
and it would be successful because the taxpayers have to 
guarantee 80 percent of the losses. And somebody needs to look 
at that.
    Mr. Bialek. Senator, I would be happy to come up and talk 
to you further about that, have my team come up and discuss it 
with you, and see if there----
    Senator Kennedy. But I want to talk about it in front of 
the American people.
    Mr. Bialek. OK. Well, we can start by having a conversation 
in your office, if you would like. It is up to you.
    Senator Kennedy. OK. Thank you, sir.
    Chair Warren. Thank you, Senator Kennedy.
    Senator Kennedy, I want to follow up on something you did. 
I have another round of questions I want to do. But we are 
talking about this compensation issue, and the reason we are 
talking about compensation is just basic conflicts of interest. 
It is very hard to oversee somebody who can fire you. It is 
very hard to point out that this is the person who engaged in 
wrongdoing if that is something who can turn around and fire 
you.
    But I want to raise a second point that came out in the 
question about how your compensation is calculated. I believe 
you said your compensation is the average of the other people 
whom you investigate, and it is their salaries plus their 
bonuses. So if your investigation finds they did really bad and 
stupid things that caused them not to get bonuses, what happens 
to your compensation?
    Mr. Bialek. If there is a reduction in one of those 
individual's bonuses----
    Chair Warren. So you make less money----
    Mr. Bialek. That is correct.
    Chair Warren. ----if you find wrongdoing in the people you 
oversee. Do you think that creates a conflict of interest?
    Mr. Bialek. I do not, honestly, because I have been in the 
IG community for over 42 years. I am not in this business to do 
anything but make sure that we properly, the 130 folks who work 
in the Office of Inspector General, properly oversee the work, 
the efficiencies of the Fed. And if we find improvements that 
need to be made it is our job to point them out. It does not 
matter to me one bit----
    Chair Warren. Mr. Bialek, it is easy for you to say, ``It 
does not matter to me one bit how much I get paid.'' But you 
have to understand there are a lot of people around the country 
who look at a $378,000 salary, that is one of the highest 
salaries in the Fed and one of the highest salaries in the 
Federal Government, and says if your salary goes up if you give 
everybody a gold star, and it goes down if you find a problem, 
and not see that as a structural conflict of interest--it does 
not have to be personal, it does not have to be to say that you 
are a bad person. It just says that we should not have both of 
those occurring gin the same place. The person who is 
responsible for handing out the gold stars on whatever happened 
or handing out the ``you did a bad job,'' should not have a 
direct financial stake in how that comes out.
    Mr. Bialek. I understand your point, Senator. My only other 
comment would be that provision of the IG Act that sets up 
those two different pay systems for IGs, the PASIG and the 
DEFIGs, that was put into place in 1988 by Congress. There have 
been amendments to the IG Act since then, and that issue has 
not been changed. But that is up to Congress----
    Chair Warren. Let me stop you there.
    Mr. Bialek. ----to decide.
    Chair Warren. Twenty years ago the GAO came to Congress, 
long before I was here, long before Senator Kennedy was here, 
and said, ``Change it because it is a mistake.'' They said, 
``Change it so that you have an independent IG at the Fed,'' 
and I think this is the reason why.
    So if I can, what I want to do is I want to talk about the 
ethics scandal while we still have you here. And that is in 
September of 2021, reports revealed a shocking ethics scandal 
at the Fed. Fed leadership at both the Reserve banks and the 
Board of Governors had made stock and other financial trades at 
the same time that the Fed was taking extraordinary action to 
stabilize the economy during the COVID-19 pandemic.
    For example, former Fed Vice Chair Richard Clarida cashed 
out somewhere between $1 and $5 million from a bond fund and 
put the money into stock funds exactly 1 day before Chair 
Powell publicly announced possible policy action that would 
significantly affect the value of those bonds and stocks.
    Now make no mistake. This is the most severe ethics scandal 
in the Fed's 110-year history, yet other than a few officials 
taking an early retirement we have seen no accountability, not 
from Chair Powell and not from the Fed's inspector general. 
That is you, Mr. Bialek.
    So Mr. Bialek, you conducted an investigation of Fed 
officials' stock trades at Fed Chair Powell's request. Here we 
are, a year and a half later, and I believe we are still 
waiting for the results of your investigation into the Reserve 
bank presidents. But last year you did release a 4-page report 
about your investigation of key Fed board members, and in that 
investigation you found that former Vice Chair Clarita failed 
to report several trades in 2019 and 2020. Am I right so far?
    Mr. Bialek. Yes.
    Chair Warren. OK. So you also found that trades involving 
Chair Powell's family trust were made during a blackout period 
for the Federal Open Market Committee, the Fed's monetary 
policymaking body, trades that should not have been made at 
those times under the Fed's rules. Correct?
    Mr. Bialek. Yes.
    Chair Warren. OK. So the rules say no trading during the 
blackout period, but Powell's trust did exactly that. The rules 
say Fed Governors must disclose all trades in a timely fashion. 
Mr. Clarita clearly did not. And yet your investigation--and I 
am going to quote you here--quote, ``did not find evidence'' 
that your boss, Chair Powell, and Mr. Clarita, ``violated the 
Fed's rules.''
    That finding just makes no sense to me. The actions of the 
Chair of the Federal Reserve and a Governor of the Federal 
Reserve were unambiguously inconsistent with the Fed's rules. 
You just said so, but you recommended no disciplinary action, 
no corrective action.
    Now in addition to your conclusion, that flies directly in 
the face of the facts, I also have concerns about what you left 
out of your investigation. According to his financial 
disclosures, Chair Powell sold between $1 and $5 million worth 
of stock at the start of October 2020, reportedly one of his 
largest trades ever, just as the stock market was beginning to 
tank. This is suspicious timing, but you did not look into this 
trade as part of your investigation. Why not?
    Mr. Bialek. If I can elaborate a bit more on this series of 
questions or issues that you have raised, Senator.
    Chair Warren. OK. Can you just answer this question, 
though, first, so I do not get confused here? Why did you not 
investigate this trade? It is not in your report.
    Mr. Bialek. We investigated all trades made by both former 
Vice Chair Clarita and Chair Powell. We looked at each and 
every one of those trades. We reviewed the source documentation 
for those trades. We got into a level of----
    Chair Warren. So you are telling me these trades did not 
occur?
    Mr. Bialek. No. I am going to tell you that as it relates 
to Vice Chair Clarita, those four trades that were made that 
were not initially included on his 2019 and 2020 financial 
disclosure reports were left out. The resolution of that--we 
have to audit and investigate against criteria. The criteria 
is, yes, they should have been included, and they were not. The 
solution----
    Chair Warren. Then how could you say there was no evidence 
that anyone violated the rules? It clearly violated the rules.
    Mr. Bialek. The Office of Government Ethics, this is their 
form, the Government Ethics program, throughout the Executive 
branch, is monitored by and set up by the Office of Government 
Ethics. Their approach is if someone leaves something out of a 
report, assuming, as is the case here, that the trades were not 
prohibited trades and they were not made during official 
blackout periods, that the resolution is to include those on 
the subsequent report, to make it a complete report for the 
next year.
    What Vice Chair Clarita did is he went ahead and amended 
those forms from 2019 and 2020. So he did more than what the 
Office of Government Ethics would have advised him to do.
    Chair Warren. So when I asked you the questions, ``Did they 
violate the rules?'' you say, ``Yes, they violate the rules.'' 
But it turns out if you fix it later you do not count that as 
violating the rules.
    Mr. Bialek. That, according to the Office of Government 
Ethics----
    Senator Warren. And what was the----
    Mr. Bialek. ----that is the case. And if I can on Chair 
Powell's charitable family trust that you mentioned, that is a 
matter where the financial advisors who handled that family 
trust, that charitable family trust, for them, was notified of 
the blackout dates for the FOMC blackout period. They were 
asked to make, as they are every year, toward the end of the 
year, to sell some assets so that the family trust can carry 
out its requirement to make charitable donations at that time 
of year. They admitted that it was their oversight that they 
did the transaction a day or two after the blackout period 
began. The request was made before that. And it was their 
error, their mistake, that allowed that to happen.
    There has to be kind of an intent----
    Chair Warren. Well, we can get----
    Mr. Bialek. ----missed report.
    Chair Warren. ----look, we can get into the intent 
questions. You know, particularly when you are telling me about 
Clarita, for example, corrected this later, yeah, he corrected 
it after you opened an investigation, which is just not exactly 
the moment that gives us all confidence.
    But I still did not hear the answer to the question that I 
asked you here. Chair Powell sold between $1 and $5 million 
worth of stock at the beginning of October 2020, one of his 
largest trades ever, suspicious timing, but you did not look 
into the trade as part of your investigation. I just want to 
understand why.
    Mr. Bialek. We did look into that trade. The trade was not 
prohibited nor was it made during the blackout period.
    If I can add, I acknowledge that our investigative report 
lacks the kind of detailed analysis that would kind of close 
these perceived gaps that you are alluding to, Senator, but it 
was intention, while we pursue these other closely related and 
ongoing ethics investigations of the Federal Reserve bank 
officials.
    I absolutely agree that the allegations of improper trading 
and ethics violations are disturbing, and they are alarming. I 
agree with you wholeheartedly. But we have to conduct a 
thorough, independent----
    Chair Warren. You have had----
    Mr. Bialek. ----investigation.
    Chair Warren. ----a year-and-a-half.
    Mr. Bialek. And we cannot----
    Chair Warren. You did not call out the trades that we can 
see. Let us just put it this way. This is not strong oversight. 
In fact, it is not even competent oversight. It looks like, to 
anyone in the public, that you gave your boss a free pass, and 
that is just not going to cut it here. And even today, a year 
and a half later, the Fed continues to stonewall Congress, 
stonewall the public, on the underlying information about these 
trades. This is not acceptable, and this is why we are pushing 
for an independent IG.
    I understand we are going to have to go vote. Is that 
right? All right. We are being called to vote. If I can, I am 
going to excuse this panel and I am going to ask the next panel 
to come up. We will vote and we will be back as fast as our 
feet will carry us. Fair enough?
    Senator Kennedy. Fair enough.
    Chair Warren. Thank you. We are in recess.
    [Recess.]
    Chair Warren. This hearing is called back to order.
    Now I will introduce our witnesses. First, I will introduce 
Dr. Peter Conti-Brown, the Class of 1965 Associate Professor of 
Financial Regulation, and Codirector of the Wharton Initiative 
of Financial Policy and Regulation at the Wharton School of the 
University of Pennsylvania. Dr. Conti-Brown is one of the 
foremost experts on the history of the Fed and of financial 
regulation. Thank you for being here with us, Dr. Conti-Brown.
    Next, we have Dr. Paul Kupiec, an economist and Senior 
Fellow at the American Enterprise Institute. Dr. Kupiec has 
decades of experience working on financial regulatory issues, 
including while working at the Fed and at the FDIC. Thank you 
for being here, Dr. Kupiec.
    And finally we have Ms. Mayra Rodriguez Valladares, 
Managing Director of MRV Associates. Ms. Rodriguez Valladares 
has 30 years of experience consulting and training 
professionals at banks and financial regulatory agencies in 
over 30 countries, helping to implement financial regulations 
on the ground. Thank you, Ms. Rodriguez Valladares.
    I appreciate all of our witnesses being here today, and if 
I can, I would recognize Dr. Peter Conti-Brown for an opening 
statement. You are recognized for 5 minutes.

    STATEMENT OF PETER CONTI-BROWN, CLASS OF 1965 ASSOCIATE 
PROFESSOR OF FINANCIAL REGULATION, ASSOCIATE PROFESSOR OF LEGAL 
    STUDIES AND BUSINESS ETHICS, THE WHARTON SCHOOL OF THE 
                   UNIVERSITY OF PENNSYLVANIA

    Mr. Conti-Brown. Thank you, Chair Warren, Ranking Member 
Kennedy, Members of the Subcommittee. It is a privilege to 
testify before you today.
    Over the past 2 months, three of the roughly 20 banks with 
assets between $100 billion and $250 billion have failed. Of 
the remaining 17, we do not know how many would have failed but 
for the extraordinary intervention of the Government related to 
the other three. Since March 12, 2023, we have been in a 
roiling banking crisis, a fact acknowledged by the very 
interventions that the Fed, Treasury, and FDIC have made to 
prevent this crisis from spiraling into a financial cataclysm.
    It is said that failure is an orphan where victory has many 
parents, but I would say this failure has many parents indeed. 
The primary responsibility relies, of course, with the bankers 
that mismanaged these risks so catastrophically. But failures 
of so much of this market segment also invite important 
questions.
    The extraordinary powers used over the last 2 months were 
designed, or redesigned, after the 2008 financial crisis, 
especially after Congress' passage of the 2010 Dodd-Frank Act. 
At the time it was the hope of Congress, the President, and the 
American people that such unusual and extraordinary Government 
interventions would be rare, rare because individual bank 
failures would be preventable through robust regulation and 
supervision, and rare because even if unprevented, an 
individual bank's failure would not a systemic crisis make.
    March 12th was a referendum on those hopes, and those hopes 
were dashed. The questions we must ask ourselves, among many 
others, then, are these. First, what did we fail to do in the 
years leading up to March 2023? Second, what changes does this 
crisis invite us to ponder that can strengthen us against 
future crises? And last, what changes must we make to restore 
the confidence of the American people in our Government's 
ability to ensure that our financial system stays robust, 
resilient, and just for all members of our society, and not 
only the wealthiest among us?
    In my written testimony today I address each of these 
questions in depth. In this opening statement I will merely 
state my conclusions. More specifically, I have three.
    First, the actions taken by Congress through the passage of 
the Economic Growth, Regulatory Relief, and Consumer Protection 
Act of 2018, and through additional regulatory pullback of 
supervisory discretion thereafter created a climate where 
grumpy banks could ignore supervisory warnings to get their 
house in order with impunity. We are still learning more of 
these details, most of which remain bound and gagged behind 
walls of confidential supervisory information. But so far we 
can surmise that the bankers either roughed up the refs or ran 
out the clock, forcing the rest of us to lose a game that we 
might have won.
    The law passed in 2018 is a key part of this story, despite 
the fact that the law itself did not contain a binding mandate 
for these supervisors and regulators to exit the field. Bank 
supervision, and its relationship to Congress, simply does not 
work that way. It depends, instead, on instructions from 
legislators and regulators to guide the practice of this hyper-
secret, highly discretionary, and extremely potent form of 
Government oversight.
    When you hear, then, that the failure of these banks was a 
failure of banker risk management and then, in turn, a failure 
of bank supervision, you hear truths but only partial truths. 
In our democratic system, bank supervisors, toiling in secrecy 
though they may be, must still answer to the people through 
regulators appointed by Presidents and legislators elected by 
the people themselves. In 2018 and beyond, the answer from 
Congress and regulators could not have been clearer--
supervisors were to pull back.
    My second conclusion is that we must reform the way 
information is collected from, and accountability provided over 
the Federal Reserve system. Our Nation's central bank has a 
rich history of superb public service, including in the present 
day, but the individual and collective expertise within the Fed 
does not render these public servants superhuman. When the Fed 
faces a scandal or a crisis, as it has done many times in its 
recent history, we simply cannot depend upon it to understand 
it itself and report to the rest of us its new, enlightened 
sensibilities.
    Fed Chair Jerome Powell and Vice Chair for Supervision 
Michael Barr have emphasized that they welcome independent 
review of the Fed's actions, but I would go further. Such 
independent review should not be merely welcome. It must be 
vital. To that end I support rendering the inspector general of 
the Federal Reserve system, currently answerable only to the 
Fed itself, to a presidential appointment subject to Senate 
confirmation. The Federal Reserve must not seem and must not be 
supervised by itself.
    Finally, and most briefly as my time is expiring, the 
Federal Reserve system as designed in 1913 needs an overhaul. 
At the time, subject to the politics of the day, that barely 
made sense for the Woodrow Wilson administration, it was deemed 
expedient to create not 1 but 12 central banks with private 
bankers governing their central bankers. It is past time for us 
to remove private bankers from this public role, or at least 
consider alterations to their presence. The appearance and fact 
of conflict of interest is something that we, the people, 
should not abide.
    I look forward to your questions.
    Chair Warren. Thank you, Dr. Conti-Brown.
    Dr. Kupiec.

STATEMENT OF PAUL H. KUPIEC, SENIOR FELLOW, AMERICAN ENTERPRISE 
                           INSTITUTE

    Mr. Kupiec. Chair Warren, Ranking Member Kennedy, and 
Subcommittee Members, thank you for the opportunity to testify 
today.
    The precarious nature of SVB's financial condition was 
obvious from regulatory call report information. As I 
demonstrate in detail in my written testimony, there was no 
need to know anything about SVB's internal liquidity stress 
test, the results of a Federal Reserve board or internal bank 
stress test, or the results of any other complex model-derived 
regulation to see that, by early March 2023, SVB was likely 
insolvent on a mark-to-market basis and in danger of 
experiencing a serious depositor run should its uninsured 
depositors recognize the bank's true condition.
    SVB was essentially run like a money market mutual fund 
without the safety benefit of SEC regulations that would have 
restricted the duration of its investments. SVB funded itself 
by attracting large, uninsured deposits during a period when 
short-term interest rates on these accounts were close to zero. 
97.5 percent of SVB's deposits were uninsured, and most of 
these were in money market deposit accounts. SVB invested its 
deposits in longer-maturity securities and loans to earn yield. 
Most of SVB's securities had a Federal Government guarantee, 
and hence, low or zero regulatory capital risk weights.
    Examiners did not criticize these investments. Examiners 
actually gave SVB a good CAMELS liquidity rating because it 
owned these long-term securities. It should have been obviously 
to bank examiners that SVB's business model was unsustainable 
in a climate of rising short-term interest rates, but there are 
no examiner findings to this effect.
    SVB failed even though it satisfied all the complex rules 
in place that determine its required regulatory capital. The 
passage of S. 2155 had nothing to do with the failure of SVB. 
S. 2155's tailoring requirements applied a Dodd-Frank enhanced 
regulation for large bank holding companies. In SVB's case, the 
risks were obvious, and they were in SVB bank, not in SVB's 
holding company.
    Federal banking regulators have ample power under prompt, 
corrective action legislation to remedy any serious safety and 
soundness issue examiners identify in a bank like SVB. Timely 
and proper exercise of the Fed's prompt, corrective action 
powers could have been used to de-risk SVB. But they were not. 
Virtually all of the corrective supervisory recommendations 
made to SVB concerned processes associated with SVB's model-
based, large bank regulations and other bank procedures 
required to measure and monitor SVB's risks. None of the 
corrective actions spoke to the actual liquidity risk 
associated with SVB's funding mix, the financial ramifications 
of its interest rate risk profile, or the bank's true capital 
adequacy risk.
    The failure of Federal Reserve examination team to 
appreciate the impact of rising short-term interest rates on 
the market value of SVB's held-to-maturity securities is 
shocking, given that this data is reported in SVB's quarterly 
regulatory recall reports, and the Federal Reserve itself 
experienced a huge, $1 trillion, unrealized market value loss 
on its own held-to-maturity portfolio.
    Meanwhile, senior Federal Reserve board and U.S. Treasury 
officials were declaring the banking system to be safe and well 
capitalized, even as FDIC analysts and academics pointed to 
massive unrecognized banking system losses. Assessments made by 
the Federal Reserve board and FSOC's official Financial 
Stability Reports were less than prescient, as they ignored the 
role monetary policy played in generating the risks that 
destabilized the banking system.
    The FDIC also played a role. SVB is an example of a 
situation for which the FDIC's backup exam authority was 
designed. No report suggests that the FDIC pushed back on the 
Fed's lack of zeal in enforcing prompt corrective actions, even 
though the FDIC's early warning models should have flagged SVB 
as a failure risk. It is highly unlikely that the FDIC's large 
bank deposit insurance premium assessment charged SVB anywhere 
near an appropriate deposit insurance premium. The system does 
not appear to emphasize the risks that caused SVB to fail. 
Proper deposit insurance pricing could have changed the way SVB 
invested its deposits.
    In the little time I have remaining I want to go through 
some possibilities that might help stem such incidents in the 
future.
    Adopting the GAO recommendation to revisit prompt 
corrective action rules to add explicit nonregulatory capital 
triggers that would mandate remedial examiner actions. 
Regulatory capital requirements do not account for interest 
rate risk. Bank supervisors are, however, regularly appraised 
of the unrealized losses on banks held-to-maturity securities 
and should recognize those losses when assessing an 
institution's capital adequacy.
    Large bank and holding company regulations have become 
exceedingly complex with a heavy reliance on economic modeling 
and hypothetical simulation exercises. The SVB supervisory 
experience suggests that overemphasis on models and processes 
may cause examiners to lose focus on important fundamental bank 
risks.
    The power of the Federal Reserve board, FDIC, and Secretary 
of the Treasury to declare a systemic risk exemption and 
release the FDIC from its least cost resolution mandate is not 
constrained by any checks and balances in legislation. There 
should be an accountability structure in place to guide the 
choice of policy taken once a systemic risk exception is 
declared.
    Since the Dodd-Frank Act, systemic risk has become the 
reason for expanding Federal Reserve regulatory powers. 
However, the term ``systemic risk'' is never defined in the 
Dodd-Frank Act. This legal ambiguity has made the FSOC a 
political tool rather than an independent voice on actual risks 
that threaten financial stability.
    The FDIC's risk-based deposit insurance premium rules for 
large banks need to be revisited, and recent events demonstrate 
the need to improve Federal Reserve oversight and 
accountability. A Senate-confirmed IG may help, district 
Federal Reserve banks should be subject to FOIA laws, and 
Congress should allocate additional resources to its committees 
dedicated to Federal Reserve oversight.
    Thank you very much.
    Chair Warren. Thank you, Dr. Kupiec.

 STATEMENT OF MAYRA RODRIGUEZ VALLADARES, MANAGING PRINCIPAL, 
                         MRV ASSOCIATES

    Ms. Rodriguez Valladares. Thank you. Chair Warren, Ranking 
Member Kennedy, and distinguished Members of the Subcommittee 
on Economic Policy, thank you for the opportunity to appear 
before you. I am Mayra Rodriguez Valladares, managing principal 
of MRV Associates. My testimony today is based on my 
professional experience of three decades consulting and 
training professionals at banks and financial regulatory 
agencies in over 30 countries on a wide range of risks that can 
threaten financial institutions' safety and soundness.
    Laws about banks are incredibly important. They lead bank 
regulators to define the type of rules they write, promote 
supervisory culture at the top, and design examination 
processes. The Economic Growth, Regulatory Relief, and Consumer 
Protection Act greatly influenced former Vice Chair of the 
Federal Reserve Randal Quarles to propose the Tailoring Rules. 
He said, ``The Congress wants to see action and has, to a 
certain degree, specified some of the steps we need to take,'' 
end quote. He also stated that ``In conjunction with changing 
regulations, we also need to consider how those regulations 
would be reflected in supervisory programs, guidance, and 
regulatory reporting.'' Prompt corrective action is not enough 
when you have that type of supervisory culture.
    Throughout 2017 and 2018, almost 400 financial institutions 
lobbied heavily in favor of EGRRCPA. Former Silicon Valley Bank 
CEO Greg Becker and many bank lobbyists and politicians were 
also in favor of EGRRCPA and argued that regional banks did not 
pose risks to the financial system. Barely 5 years later, those 
words did not age well.
    I do not have schadenfreude when I remember that in August 
2018, I wrote, ``Taxpayers should not be fooled into thinking 
that banks that are in the asset range of $100 to $250 billion 
are not systemically important because regional and foreign 
bank organizations of that size are incredibly interconnected 
to other financial institutions and to thousands of companies 
in the U.S., due to loans that they extend and the financial 
derivatives that they arrange for companies of every size. If 
any of those banks were to run into problems for being 
insufficiently capitalized, or if they were to become illiquid, 
taxpayers would suffer the consequences.''
    After conducting the Financial Sector Assessment Process of 
the United States in 2020, independent analysts and consultants 
hired by the International Monetary Fund were critical about 
the shortcomings of S. 2155, EGRRCPA, as well as of the Federal 
Reserve's tailoring approach. The IMF recommended that U.S. 
regulators introduce rules on concentration risk management and 
include more quantitative standards on interest rate risk in 
the banking book, as well as making specific capital and 
liquidity recommendations for large banks that were not 
internationally active, in other words, our regional banks.
    After analyzing all the CAMELS examination reports--
capital, asset quality, management, earnings, and liquidity 
standards and sensitivity to market risk--and the supervisory 
letters released by the Federal Reserve, I know that Silicon 
Valley Bank's CEO Greg Becker, his colleagues, and board, 
willingly ignored the numerous interest rate, liquidity, Bank 
Secrecy Act, anti-money laundering compliance failures, data 
problems, information technology weaknesses, and incredibly 
ineffective internal audit and credit risk management 
processes, some of those going back all the way to 2016. All 
the aforementioned were identified by California and Federal 
Reserve Bank of San Francisco examiners. Additionally, SVB did 
not disclose important interest rate risk measurements such as 
economic value of equity in its annual report or Basel III 
Pillar 3 risk disclosures, leaving the market in the dark.
    The problem, however, is that there is still so much that 
we do not know about SVB's failure because an independent 
postmortem has not been completed. Who, at regulatory agencies, 
ignored examiners' findings year after year, and why?
    I respectfully recommend the following legislative and 
supervisory process changes that I detail more in my written 
statement. One, order an independent investigation of the 
Silicon Valley Bank failure. Two, appoint an independent 
inspector general for the Federal Reserve based on a Senate 
confirmation. Three, revise Title IV of 2155 to reinstate Dodd-
Frank's designation of systemically important banks. Four, 
remove heads of banks from Federal Reserve district boards. 
Five, reform remuneration for CEOs and key bank professionals. 
Six, require transparency from banks about their assets and 
liabilities and interest rate and liquidity risk management 
more often than just once a quarter. Seven, utilize all of the 
Federal Reserve's existing powers to escalate identified risks 
in banks and impose enforcement actions on noncompliant banks. 
Eight, require improvements in the monitoring of banks' 
interest rate risk models. Nine, reinstate the liquidity 
standard for all large bank organizations. And ten, provide 
strong protections for onsite examiners and offsite supervisors 
so that they can actually move things up the chain.
    Thank you very much, and I look forward to your questions.
    Chair Warren. Thank you very much. I really appreciate it, 
Ms. Rodriguez Valladares. I appreciate all of your testimonies. 
This is really important and thoughtful.
    If we can, I would like to dive deeper into some of the 
findings in the Fed's postmortem of the Silicon Valley Bank's 
collapse. The report made clear that the Fed failed at every 
step along the way, from the Board of Governors at the very top 
to the San Francisco Fed Bank examiners on the ground, who were 
unwilling or unable to force SVB to fix its problems before the 
bank blew up.
    So let's start at the top with the Board of Governors. This 
is the body where bank rules are written and then communicated 
down to the Reserve banks to enforce.
    One of the four causes of SVB's failure, that the Fed 
report identifies, is the 2018 law that Republicans, with the 
help from some Democrats, passed. This law severely weakened 
the guardrails that Congress put in place after the 2008 
financial crisis, to ensure that greedy banks never again crash 
the economy. That was certainly the intent.
    Dr. Conti-Brown, you are an expert on financial regulation 
and the Fed. According to the Fed's Vice Chair Barr's report, 
how did the passage of that law--let's just call it 2155; that 
is what we call it around here--how did the passage of 2155, 
this bill that Congress voted on, lead to SVB's failure?
    Mr. Conti-Brown. Thank you, Senator Warren. The provision 
in 2155 that refers to changing the asset classes is only about 
five pages long. It is very short. And it does not contain a 
mandate--Fed, thou shalt not supervise these banks.
    Chair Warren. Right.
    Mr. Conti-Brown. What it does is create a system that was 
in place under Dodd-Frank, that for a bank to grow above $50 
billion, or above $100 billion, they knew that there would be 
significant regulatory and supervisory costs. Those costs went 
away because what Congress did is say anything below $250 
billion is wiped clean. If you want to put it back, you have 
got to go through a process. That is what they said to the Fed.
    And so for Silicon Valley Bank, which was hovering right 
below $50 billion at the time, that was just a massive neon 
light saying ``grow, grow, grow.'' So that was one way. And 
then when they grew so fast, so far, on both liabilities and on 
assets, they could not diversify, and so that led to flighty 
deposits that rendered them sensitive on the funding side, and 
it led to under-diversified assets, which led to their collapse 
in this interest rate environment.
    The other thing that it did is send a very pointed 
direction, and as a historian of bank supervision I am 
currently writing a 600-page history of bank supervision, that 
I am nearly completing, I can tell you this is exactly the way 
Congress works. It writes laws and it says this is the way we 
want you to use the tools, even when it does not say ``thou 
shalt'' or ``thou shalt not.'' And that is exactly the way that 
Title IV of the law is written. It is to say pull back on this 
regulation and give a green light for massive and undiversified 
growth.
    Chair Warren. So the Fed report says that Congress told the 
Fed to deregulate, and that is what you are saying. This is the 
message that was delivered. The Fed heard that message loud and 
clear, and then it used that message to open up and start to 
deregulate even further, throughout the Fed system here. And 
the result, according to the report, is that S. 2155 and the 
Fed's tailoring that it took in response, quote--this is from 
the Barr report--``impeded effective supervision by reducing 
standards, increasing complexity, and promoting a less-
assertive supervisory approach.'' And I think that is 
consistent with your testimony. Is that right, Dr. Conti-Brown?
    Mr. Conti-Brown. Yeah, it is.
    Chair Warren. OK. So let me then just come over. Ms. 
Rodriguez Valladares, you have decades of experience working as 
a bank examiner and training bank examiners. You are the one 
down on the ground with these folks who are making the calls 
with the banks every day. Do you agree with Vice Chair Barr's 
conclusion that S. 2155 promoted a less-assertive supervisory 
approach?
    Ms. Rodriguez Valladares. Yes, very much so. And former 
Vice Chair Randal Quarles made it very clear before the 
American Bankers Association in the quote that I read that he 
really saw that Congress wanted these specific steps, and all 
of that is part of starting at the top, that tone, and filters 
all the way down to the different kinds of supervisors and 
examiners. And the tailoring rules meant that Silicon Valley 
Bank, for example, did not have to do a lot of incredibly 
important things, like really measure from a market perspective 
interest rate risks and the banking book, for example. It did 
not have to do stressed liquidity coverage ratios.
    And so because it did not have to do them it did not have 
to report them to the regulators or to the market, and that is 
incredibly important because if the regulators miss it, but it 
then comes out in an annual report or a Pillar 3, then the 
market can discipline the bank, and all of that, unfortunately, 
was missing precisely because of those tailoring rules.
    Chair Warren. So the loosening ends up having multiplier 
effects, that once you loosen a little bit you lose other 
discipline in the system. Is that a fair way to describe what 
you just said?
    Ms. Rodriguez Valladares. Absolutely. And not only that but 
then all of the appointees at the Fed, at the FDIC, and the OCC 
as well, obviously, that was a totally different tone. When I 
used to go to banks right after Dodd-Frank was signed, I would 
see the bankers with all of the different compliance, all the 
rules earmarked. They took them seriously. So did the bank 
examiners. And that, after 2018, really disappeared. The tone 
changed.
    Chair Warren. OK. So the tone changed.
    And here is another piece of it I want to look at. You 
know, not only did the Fed use the political cover that 
Congress gave it and moved in the direction of weakening the 
rules for big banks even further, the Fed itself was lobbying 
for the bill to weaken regulations the whole time. Fed Chair 
Powell testified in favor of it, and according to press 
reports, the Fed's general counsel may actually have even 
drafted it.
    Now the Members of Congress who voted for S. 2155, and the 
banking industry that lobbied for it, now argue that the Fed 
had the discretion to continue to apply stronger rules to 
banks, like SVB. They just chose not to. And I agree--the Fed 
should have used its authority to apply stronger rules to banks 
with more than $100 billion in assets. And that is why I called 
on Fed Vice Chair Barr to use that authority immediately, now, 
and I am glad that he has committed to do that.
    But you do not get to write a law that shoves the Fed in a 
strictly deregulatory direction and then turn around and say, 
``Gee, we wish they had not deregulated.''
    Dr. Conti-Brown, do you think that the big banks and the 
people calling on the Fed to deregulate would have supported 
the Fed's decision--take yourself back to 2018--would they have 
supported the Fed's decision to use its discretion to 
strengthen rules for the banks with more than $100 billion in 
assets, if they had decided to do that once 2155 had been 
passed?
    Mr. Conti-Brown. It is inconceivable that they would have 
supported a move such as that. And I would go further still. In 
the 20th century, in the 110 years the Fed has been in 
existence, unlike, say, the SEC or the EPA, regulated entities 
under the Fed rarely, if ever sue it.
    Chair Warren. Yep.
    Mr. Conti-Brown. And that is for a lot of complex reasons. 
Bank supervision is related to it. This is a counterfactual, 
but I would bet my eye teeth that we would have seen some very 
significant litigation. And the reason I think that is because 
Title IV is written in a way consistent with D.C. Circuit legal 
doctrine, to invite litigation. And the reason is because it 
contains like a seven-part test that if you want to tread into 
the $100 and $250 billion range, you are entitled to do so, but 
you have to consider all of the following. And we have seen, 
after the financial crisis with the SEC, similar kinds of 
language struck down by the courts.
    And so I think that the banks subject in this 
counterfactual to that kind of a regulation would have not 
called their bank examiners for a conversion. They would have 
called their lawyers to launch litigation.
    Chair Warren. Wow. That is a really powerful point about 
this.
    You know, S. 2155 weakened the rules and the supervision 
for these banks like SVB and opened the deregulatory door for 
the Fed to drive a truck through, which, under Chair Powell, it 
immediately did. The change in the law and the tailoring the 
Fed pursued in response to that change, quote, ``combined to 
create a weaker regulatory framework for a firm like SVB,'' and 
that is according to the Fed's own report.
    So look, I am very glad that Vice Chair Barr has committed 
to using his existing authority to strengthen those rules for 
big banks, but Congress needs to close that door for good. And 
that is why I have introduced a bill to repeal Title IV of S. 
2155, which would undo the Fed's deregulation of the biggest 
banks and ensure that we apply tougher rules to banks like SVB 
that have the power to threaten our banking system.
    Now ordinarily at this moment I would turn this over to my 
Republican counterpart for questions, but since he is not here, 
I am going to go to my next round of questions on this.
    I want to focus on the other part of the Federal Reserve 
system, and that is the regional banks. Unlike the Board of 
Governors here in Washington, which is a public body with 
Governors nominated by the President and confirmed by the 
Senate, the 12 Reserve banks are private corporations overseen 
by private citizens, including a lot of bankers. Even so, these 
private Reserve banks are permitted to play a crucially 
important role in public policy, including voting on interest 
rates and supervising banks.
    In the case of Silicon Valley Bank, the San Francisco Fed 
was the regulator on the ground responsible for ensuring that 
SVB was managing its risks, but the San Francisco Fed clearly 
failed to do so. By the time SVB had collapsed, it had 31 
unresolved supervisory issues, triple the number of warnings 
that similar banks had, which was already too big. It is great 
that the San Francisco Fed sent those warnings, but what is the 
point of sending warnings if there is no follow-up. Do you 
think no one is paying attention? Why did the San Francisco Fed 
not force SVB to address the problems that the San Francisco 
Fed had already identified, not that they needed to figure out 
some other stuff, the stuff they clearly knew.
    So Dr. Conti-Brown, I know that you have written a lot 
about the Reserve banks, so let me just ask you for a little 
background here, and let's get this on the record. Who are 
these private citizens who oversee the 12 Reserve banks?
    Mr. Conti-Brown. Well, they hold an extremely important 
public trust, but they are not public officials. There are nine 
of them, total, for each Reserve bank, but there are Reserve 
bank branches that hints at some other boards that serve in a 
similar kind of role.
    For the Reserve banks, these nine are divided into three 
classes, Classes A, B, and C. Class A are the bankers 
themselves. They are folks like Greg Becker, who was the 
President of SVB, who 1 minute would be sitting in the 
boardroom at SVB and then he would look at his watch and run 
over to the San Francisco Fed, ``I have got another board 
meeting to go to.''
    The next three are nonbankers, or at least not currently 
bankers, but they are also appointed by the bankers, supervised 
by the Fed. And Class C are to represent the public. They are 
appointed by the Board of Governors. Historically, all nine of 
them were either recent bankers, current bankers, or distant 
bankers. Class C in the last 15 years or so has been better 
diversified.
    Chair Warren. So let me just get this straight. Two-thirds 
of the people that oversee each of the Reserve banks, and hand-
pick the leadership, are elected by the very same banks that 
are regulated by the Reserve bank, and three of those people 
actually work at the bank, right? That is how this works.
    Mr. Conti-Brown. That is right.
    Chair Warren. Because people would not believe this, you 
realize.
    Mr. Conti-Brown. No. People think you are sending up 
quackers' conspiracy theories when you tell this. It is written 
in the Federal Reserve Act.
    And one change that was made by Congress in 2010, is that 
the Class A directors--these are the bankers who are currently 
working as bankers--can no longer vote on the appointment of 
the Reserve bank president, but we do not know what they can 
say about it. And I have talked to some people who say, ``Oh 
no, it is a very strict wall of separation,'' and others say, 
``They are constantly participating in these same kinds of 
discussions.'' As with nearly everything about Reserve bank 
governance, the public has no idea.
    Chair Warren. Right. OK. So this chummy little group is 
making a lot of policy here, and nobody else gets to see it.
    And you mentioned that one of the directors at the San 
Francisco Fed was Greg Becker, who at that very moment was also 
CEO of SVB. In fact, Mr. Becker--I just want to draw the line--
was a director overseeing the regulator that was supposed to 
oversee Mr. Becker's bank. And this is exactly at the time that 
SVB received 54 supervisory warnings from the San Francisco 
Fed's bank examiners, and the bank examiners--surprise, 
surprise--made no follow-up to force SVB to change any of its 
practices.
    So Ms. Rodriguez Valladares, does the fact that the CEO of 
SVB was on the board overseeing the San Francisco Fed, SVB's 
regulator, raise questions for you about whether or not his 
presence on the board could have affected the strength of the 
San Francisco Fed's supervision?
    Ms. Rodriguez Valladares. Absolutely. He never should have 
been there, and it is something that is of great concern. He 
himself, yesterday, when he testified, mentioned that he 
frequently met with the president of the San Francisco Fed, at 
least once a month, sometimes more frequently. And it is very, 
very difficult for examiners or anybody else at any of the 
district Feds to say anything that is going to be critical of 
one of the board members. That kind of mechanism does not 
exist. And it is unfortunate that there still has not been a 
complete independent investigation of the SVB failure, because 
there are a lot of documents that were missing.
    Normally what happens is you examine a bank, and you write 
about your findings, and you submit your notes, you submit all 
of your documentation to what is called an EIC, the Examiner in 
Charge, and then he or she will review it, and then there are 
various other layers of middle management at the district Feds 
that will look at those reports.
    So we, the public, have not seen, wait a minute, those 
risks were identified at SVB year after year, but what kind of 
middle management or anybody else got involved in the writing 
of the report.
    Also, in a little footnote in the CAMELS examination 
reports, it says that the person who wrote the report was 
chosen by the Board of Governors. And so what then is exactly 
the relationship of the Board of Governors and the San 
Francisco Fed in this specific examination? So those details 
are very important.
    Chair Warren. So it sounds like to me that this is clearly 
a case of the fox guarding the henhouse all the way through the 
system here.
    I want to note this is not the first time. It is not like 
we pulled back the curtain and are shocked to discover this 
happening in 2023. Back in 2008, JPMorgan's CEO, Jamie Dimon, 
was sitting on the New York Fed board, at exactly the same time 
that his bank was borrowing emergency funds from the Fed, and 
who was the chairman of the New York Fed board at the time? It 
was the former head of Goldman Sachs, who was serving on the 
Goldman Sachs board at the same time, even as Goldman Sachs was 
borrowing billions of dollars from the Fed. And, of course, all 
this happened at the same time that the Fed banks were 
recommending to Congress to do a huge bailout for the giant 
banks. So this has obviously been going on for a long time.
    Now after 2008, Congress took steps to address these gross 
conflicts of interest at the Reserve bank boards, but clearly 
we have still got a long way to go on this. And this is why 
Senator Rick Scott and I introduced a bipartisan bill today 
that would prohibit big bankers from serving as Reserve bank 
directors. It would also subject directors to ethics and 
financial conflict of interest rules. It would foreclose any 
opportunity for directors to interfere with the supervisory 
process.
    You know, Dr. Kupiek, I am afraid you are not going to get 
in on this, so if I can I will just turn to you and ask you, do 
you think if some of the legislation like the kind that Senator 
Scott and I have proposed--I do not know if you have had a 
chance to see it in any detail--but would it help some with 
these conflicts of interest?
    Mr. Kupiec. I have not read the legislation but I would----
    Chair Warren. I am sorry. I did not mean to cold-call you 
on that.
    Mr. Kupiec. No, no. Well, I looked a little bit at the IG, 
which I think is a good idea, but I would point out that the 
other two banks that failed are not part of the Federal Reserve 
system, and signature bank had Barney Frank on its board of 
directors, and Alfonse D'Amato, a former
    Senator, as head of the Banking Committee on its board of 
directors too. So there is a lot of blame to go around. That is 
not to say that Mr. Becker gets off the hook, but there are 
prominent, connected people on boards of directors, on lots of 
boards of directors.
    Chair Warren. So we have got a lot of conflicts, I think is 
what you are saying. Is that a fair statement? We have got a 
lot of conflicts here.
    Mr. Kupiec. Yeah.
    Chair Warren. Well, let me ask you, Dr. Conti-Brown. Would 
these reforms that Senator Scott and I have proposed help 
address conflicts of interest in the Reserve banks, and maybe 
strengthen a little public confidence in the supervisory powers 
of these banks?
    Mr. Conti-Brown. My only reaction is to take the ``maybe'' 
out of that sentence. I think that it is almost circular to say 
that this would help with the conflicts.
    And I just want to be clear. This is a moderate position. I 
would go much further. I would fire bankers from these boards 
entirely. And I recognize that there are politics here and 
there are interests involved. And so I think that the proposal 
from you and Senator Scott, which I have reviewed, does not go 
as far as I would like, but it does help to manage these 
questions, and makes it so that when you tell someone who is 
interested in the well-being of our country and its financial 
system about these strange curiosities, the Federal Reserve 
banks, it would help so much to be able to tell them that those 
with the largest banks do not participate in that governance.
    Chair Warren. Right. And would you like to add something to 
this, Ms. Rodriguez Valladares?
    Ms. Rodriguez Valladares. Yes. I have actually looked at 
both pieces of bipartisan legislation and I am impressed with 
them. I agree with Dr. Conti-Brown that I think it would be a 
very good idea not to have any bankers on the boards. The skill 
sets that they bring can be found elsewhere, and frankly, there 
is a danger of having too many bankers on the boards. You 
really need cognitive diversity. They would be much better 
served if they somebody, let's say, from an independent broker-
dealer that has nothing to do with the Fed, for example. They 
could have people there from the American Red Cross or such 
organizations that are experts at dealing with chaos and 
unexpected problems. You frankly would need a scientist.
    So there are a lot of different skill sets. There is a lot 
of value in cognitive diversity that is very, very important. 
And like these gentlemen, I concur with them that an inspector 
general who would be appointed by the President and confirmed 
by the Senate would be a much, much better situation. It is 
very, very difficult to go tell the people with whom you are 
working, and you see on a day-to-day basis that they are doing 
a bad job.
    And the minute that you hear the word ``bonus'' anywhere, 
it immediately means that your own salary depends on their 
performance, and so you cannot call out wrongdoing in an 
independent way, and you are not accountable to legislators.
    Chair Warren. I appreciate that. If you all will bear with 
me there is one more issue I want to make sure that we get 
covered, and that is ensuring that the Fed and the Reserve 
banks are more responsive to requests from Congress and from 
the public about information.
    Right now, despite their massively important role in 
shaping our economy, Federal Reserve banks are exempt from the 
foundational transparency law, the Freedom of Information Act, 
or FOIA.
    So you all have relevant expertise, and I just want to go 
down the line, if I can, on this. Do you agree that subjecting 
the Federal Reserve banks to FOIA, just like the Fed board, 
would help strengthen the accountability of the Fed? Dr. Conti-
Brown?
    Mr. Conti-Brown. Unequivocally, yes.
    Chair Warren. Dr. Kupiec.
    Mr. Kupiec. I testified yes.
    Chair Warren. Yes. I heard you but I want to get it on the 
record. And Ms. Rodriguez Valladares.
    Ms. Rodriguez Valladares. Because right now banks only 
report relevant risk measures once a quarter, by the time that 
we all get that information it is old. So yes, I definitely 
would support the FOIA.
    Chair Warren. Good. And in the first panel, the Fed IG, who 
was chosen by the Fed Chair, who answers to the Fed board, and 
who can only be removed by the Fed board, argued against making 
the Fed IG a Senate-confirmed position. I think you all have 
answered this at different points, but I just want to make sure 
I get this on the record.
    Do you agree with the inspector general that the Fed does 
not need a Senate-confirmed IG? Dr. Conti-Brown.
    Mr. Conti-Brown. I disagree with him on this.
    Chair Warren. Yeah. Dr. Kupiec.
    Mr. Kupiec. I do not think he made a strong case.
    Chair Warren. OK. And Ms. Rodriguez Valladares.
    Ms. Rodriguez Valladares. Right. I disagree with him as 
well. He did not provide any evidence as to why particularly 
the role should be under the Fed.
    Chair Warren. Yeah. So the failure of Silicon Valley Bank 
and its crisis triggered an opportunity for Congress to finally 
bring greater accountability to the Fed, and we can do that 
from top to bottom. This hearing has discussed multiple 
bipartisan bills that would strengthen oversight and 
transparency, eliminate conflicts of interest, and make the Fed 
work better for the American people. It is time to end the 
Fed's culture of corruption.
    Thank you very much. I want to thank you all for 
participating. I appreciate your well-prepared opening 
statements. We will make them part of the record.
    Questions for the record are due 1 week from today, 
Wednesday, May 24th. For our witnesses, you will have 45 days 
to respond to any questions.
    Thank you again, and with that this hearing is adjourned.
    [Whereupon, at 4:28 p.m., the hearing was adjourned.]
    [Prepared statements, responses to written questions, and 
additional material supplied for the record follow:]

              PREPARED STATEMENT OF CHAIR ELIZABETH WARREN
    Welcome to a hearing of the Senate Banking, Housing, and Urban 
Affairs Subcommittee on Economic Policy.
    The rapid collapse of three banks-Silicon Valley Bank, Signature 
Bank, and First Republic Bank--was a shock. These three bank failures 
together put more assets at risk than the 25 bank failures in the 2008 
crash.
    Silicon Valley Bank's failure was another symptom in what has 
become a predictable string of failures in the governance of the 
Federal Reserve. SVB's collapse and the other bank failures it 
triggered forced the FDIC, the Treasury Department, and other 
regulators to rush to the rescue to avoid implosion of our banking 
system. So far, the FDIC Insurance Fund has suffered billions of 
dollars of losses, and, as a result of the bailouts, America's biggest 
too-big-to-fail bank got even bigger.
    The failure of those banks was a first-order management disaster. 
Same old story: their executives took too much risk, got too greedy, 
and blew up their banks. Those executives need to be held accountable--
and I'm working on bipartisan legislation to claw back money when 
executives take big bonuses for blowing up their banks.
    But look deeper. The implosion of all three banks are rooted in the 
failure of those banks' regulators and supervisors--most notably, the 
Federal Reserve.
    The Fed's own report on the SVB failure identified problems high 
and low, finding that as SVB got bigger and bigger, the Fed's Board of 
Governors, under the direct leadership of Jerome Powell, weakened 
banking regulations. This is exactly the kind of deregulatory shift I 
warned about in 2018 when I opposed Powell's nomination as Fed Chair 
and again in 2021 when I said that he was a dangerous man to keep at 
the Fed.
    Notably, the Fed's report also laid blame at the feet of Congress 
for passing legislation to weaken bank rules--an agenda that Chair 
Powell eagerly embraced.
    The Fed's report also found that bank examiners at the San 
Francisco Fed, which was SVB's regulator on the ground, followed orders 
from the Fed and backed off, allowing SVB's executives to pile on more 
and more risk. Now the San Francisco Fed and the Board of Governors are 
pointing fingers at each other, playing a pathetic game of ``not it'' 
while they each try to duck any accountability.
    The Fed is independent within the Government and needs to maintain 
that independence when it comes to doing its primary job of setting 
interest rates. Independence should not be conflated with a total lack 
of accountability when the Fed and its leadership make serious 
mistakes. Unfortunately, the Fed has faced little accountability. In 
recent years, a growing list of scandals has tarnished the Fed's 
reputation and its credibility.
    In 2021, high-level Fed officials were embroiled in a scandal 
involving stock and other financial trades made even as the Fed took 
extraordinary action to right the economy during the COVID pandemic. 
The Fed responded with a sham investigation by the Fed's own Inspector 
General--an official hired and fired by the Fed itself. This 
investigation failed to look into key aspects of the scandal. Even when 
the Fed IG found that there was improper trading in Chair Powell's 
accounts, it imposed no consequences.
    And when Congress tried to get information from the Fed Board and 
from the regional Reserve Banks on the scope of this scandal and the 
response, we got the cold shoulder. The Fed simply refused to turn over 
key documents and information to Congress and stopped any outside 
investigation in its tracks.
    That's not all. Reports have surfaced about Fed leadership giving 
secret speeches and sensitive information to bankers and bankers' 
wealthy clients. We learned that--unbelievably--the President of SVB 
sat on the Board of the San Francisco Fed up until the day the bank 
failed.
    The culture of corruption at the Fed has already undermined the 
Fed's credibility with the American public.
    The hearing today will discuss proposals that would make the Fed 
more transparent and accountable to help restore some of that 
credibility. I've got an idea--a bipartisan idea that I'm introducing 
with Sen. Rick Scott today: get the big bankers off the Reserve Banks 
boards of directors.
    And there's more. Senator Scott and I also introduced a bill, which 
was included in a separate bill with Sen. Tillis, to give the Fed a 
true, Senate-confirmed independent Inspector General to serve as an 
agency watchdog.
    Mark Bialek, the current Fed IG, is here today. Mr. Bialek, I 
appreciate your joining us, because I know you have a busy schedule. 
And I want you to know that my concern about your current role is not 
personal. My concern is institutional. You were chosen by then-Fed 
Chairman Ben Bernanke in 2011, and you serve today at the discretion of 
Chair Powell and the Board. In other words, you are supposed to be the 
watchdog of exactly the people who hired you and who have the power to 
fire you. That dynamic tends to create watchdogs that don't bark.
    At best, you are in an impossible, compromised position when it 
comes to investigating wrongdoing at the Fed. To restore confidence in 
the Fed, we need a strong, Senate-confirmed Inspector General to 
conduct rigorous, independent oversight.
    I appreciate your joining us, and I look forward to discussing 
these and other matters today.
                                 ______
                                 
                   PREPARED STATEMENT OF MARK BIALEK
Inspector General, Board of Governors of the Federal Reserve System and 
                the Consumer Financial Protection Bureau
                              May 17, 2023
Introduction
    Chair Warren, Ranking Member Kennedy, and Members of the 
Subcommittee: I am pleased to be here today to discuss oversight and 
accountability at the Federal Reserve.
    Independent, objective oversight is critical for ensuring that 
Government agencies work efficiently; effectively; and in accordance 
with the laws, rules, and regulations that govern them. Such work is 
also vital for maintaining public trust in Government institutions.
    As the Office of Inspector General for the Board of Governors of 
the Federal Reserve System and the Consumer Financial Protection 
Bureau, we conduct audits, evaluations, and other reviews to assess the 
economy, efficiency, and effectiveness of the agencies' programs and 
operations. We also investigate wrongdoing--including actions that 
hinder the agencies' ability to supervise financial institutions within 
their jurisdictions--committed by agency employees, contractors, or any 
other person or entity.
    From 2018 to 2022, we issued 108 audit and evaluation reports. Of 
these reports, 61 focused on the Board and included 175 
recommendations, and 47 focused on the CFPB and included 122 
recommendations. During the same period, we closed 170 investigations, 
resulting in 116 convictions and $4.4 billion in financial actions (for 
example, fines, restitution, forfeiture, and civil judgments). Our 
COVID-19 pandemic response-related investigations have so far resulted 
in 141 investigations, 62 convictions, and nearly $66 million in 
financial actions.
    Consistent with the Subcommittee's interest in Federal Reserve 
oversight and accountability, my testimony has five parts: First, I 
will explain our overall approach to oversight; second, I will 
summarize significant, enduring challenges in Board programs and 
operations; third, I will detail our work on the Board's supervision of 
financial institutions; fourth; I will describe our approach to the 
Board's ethics matters; and fifth, I will address proposed legislation 
that would reform Federal Reserve oversight.
Approach to Oversight
Statutory Mandates
    Our statutory mandates are our highest priority. These mandates 
play a large part in our information technology (IT) audit and 
evaluation planning in particular: Approximately 75 percent of our IT 
audit and evaluation work is legislatively mandated. We also have 
statutory mandates related to our non-IT audit work that require 
reviews when a State member bank failure occurs, reviews of the Board's 
supervision of covered financial companies placed into receivership, 
and independent audits of the Board's and the Federal Financial 
Institutions Examination Council's financial statements. In addition, 
we are mandated to conduct risk assessments and audits of the Board's 
and the CFPB's purchase card and travel card programs as well as 
reviews to determine the CFPB's compliance with the Payment Integrity 
Information Act.
    With our remaining resources, we independently exercise our 
discretion by focusing on those programs and operations in which 
potential deficiencies pose the highest risk to the Board and the CFPB 
in achieving their strategic goals, objectives, and priorities; meeting 
budgetary and financial commitments; and complying with applicable 
laws, regulations, and guidance.
Biennial and Dynamic Planning
    In addition to these mandates, our discretionary project selections 
are based on two types of risk-based planning activities: our biennial 
planning process and dynamic planning.
    We begin our biennial planning process by defining the agencies' 
major management challenges. Unlike other OIGs, we are not required by 
statute to identify these major management challenges but choose to do 
so as a best practice and to help focus the Board's and the CFPB's 
attention on the areas that will affect their ability to achieve their 
strategic goals and objectives. We have conducted this activity on a 
discretionary basis to help inform our planning and project selection 
decisions. This process helps to ensure that we (1) have defined the 
topics that can hamper the agencies' ability to achieve their strategic 
goals and objectives, (2) are performing work that has a clear 
connection to those strategic goals and objectives, and (3) are engaged 
in risk-based oversight. We also assess inputs such as stakeholder 
outreach, hotline complaints, risks, and ideas identified during prior 
projects.
    Then, we prioritize projects that we plan to initiate over the 
remainder of the planning period's time horizon. The project selections 
we make are based on considerations such as (1) the connection to 
agency mission or strategic objectives, (2) the dollar amount 
associated with the relevant program activity, (3) the operational risk 
associated with the activity, (4) the reputational risk associated with 
the program or activity, and (5) stakeholder request or interest in the 
audit or evaluation.
    There is also a dynamic aspect to our planning, as we strive to 
conduct timely and relevant work. We engage in dynamic planning 
activities in response to developments at or affecting the agencies, 
input from congressional and other stakeholders, and hotline 
complaints. Such issues may cause us to reconsider our planned 
activities and pivot to initiate a project that we had not initially 
contemplated in the plan. Recent examples include our pandemic response 
oversight work, which required us to realign our audit, evaluation, and 
investigative resources to oversee the Board's lending facility 
efforts, and our ethics program evaluation for the Board, which is 
explained in greater detail in my statement. Our IT audits and 
evaluations can be informed by reviews of newly issued Federal policies 
and guidance, engagement with other OIGs and the U.S. Government 
Accountability Office, and audit and fraud risk assessments.
Major Management Challenges for the Board
    Our oversight of the Board covers every facet of its programs and 
operations. From 2018 to 2022, we issued 61 reports on the Board, which 
included 175 recommendations to improve the economy, efficiency, and 
effectiveness of its programs and operations. Nearly three-quarters, or 
129, of these recommendations have been closed.
    From this body of work, as well as our knowledge of the Board's 
programs and operations and our outreach with agency management, key 
themes emerge that point to significant and enduring challenges that, 
if not addressed, are likely to hamper the Board's accomplishment of 
its mission. We are close to issuing our major management challenges 
for the Board for 2023. As noted, the issuance of management challenges 
reports is not mandated for us. These challenges are complex, and 
addressing them will require multiyear efforts. We will continue to 
focus on these areas, make recommendations, and ensure that the Board 
acts on those recommendations.
    I would like to highlight four of the Board's eight challenges for 
you, which have carried over from our 2021 list of Board challenges:

  1.  Strengthening organizational governance and enterprise risk 
        management (ERM)

  2.  Remaining adaptable while supervising financial institutions

  3.  Enhancing oversight of cybersecurity at supervised financial 
        institutions and service providers

  4.  Ensuring an effective information security program

    Other challenges that we have identified for the Board are evolving 
with financial sector innovations; managing hybrid work and workforce 
planning, updating the human capital system, and advancing diversity 
initiatives; monitoring COVID-19 pandemic emergency lending facilities 
and underlying loan portfolios; and ensuring that physical 
infrastructure effectively meets mission needs.
Organizational Governance and ERM
    The Board has complex, decentralized governance structures for 
guiding the operations of the Federal Reserve System; challenges exist 
in determining the appropriate balance between centralizing or 
decentralizing certain functions and responsibilities. Further, because 
of its decentralized structure, the Board has a consensus-driven 
culture that makes it difficult to establish an enterprisewide approach 
for managing risks and administering certain business functions. The 
Board has made some progress toward enhancing its organizational 
governance and establishing an ERM program but should continue to focus 
on governance challenges at both the System and Board levels. The Board 
may have to address cultural challenges when introducing new governance 
structures, as these efforts require considerable coordination and 
effective change management. In circumstances where enhanced governance 
results in revised business processes, the Board will need to ensure 
that effective controls are in place and are actively monitored.
Adaptability in Financial Institution Supervision
    Promoting the safety and soundness of individual financial 
institutions and financial stability more broadly is a core mission of 
the Board. The Board should assess the effectiveness of its supervisory 
tools and approaches in light of developments in the banking sector, 
such as the failure of Silicon Valley Bank. In addition, the Board 
should ensure that the System's examination workforce is sufficiently 
trained to address changing conditions by reinforcing existing, or 
creating new, supervisory rules and guidance. Maintaining strong 
cooperative relationships with other agencies to coordinate supervisory 
activities; leveraging the work of other supervisors, as appropriate; 
and collaborating, as necessary, on any updates to banking regulation 
and policy will also be important for the Board.
Oversight of Cybersecurity at Supervised Financial Institutions
    Cyberthreats to financial institutions supervised by the Board 
continue to increase in both number and sophistication. Cyberattacks 
can create substantial operational risk, disrupt critical services, and 
ultimately affect financial stability. As a result, cybersecurity 
remains an area of significant focus for supervised financial 
institutions and Federal financial regulators. The Board should 
continue to ensure that its supervisory approaches for financial 
institutions and service providers evolve with changing cybersecurity 
risks, ensure that it has effective and efficient approaches to assess 
the threat an incident poses, and ensure that banking organizations or 
any service providers involved take appropriate action to minimize any 
disruption to the organizations' or providers' operations or to the 
U.S. banking system.
Ensuring an Effective Information Security Program
    Information security continues to be a key risk area for the Board. 
While the Board maintains an effective information security program and 
is taking multiple steps to strengthen and mature its program, the 
agency faces challenges in three key areas:

  1.  Full implementation of a zero trust architecture (ZTA). A ZTA is 
        a set of system design principles and a coordinated 
        cybersecurity and system management strategy based on an 
        acknowledgment that threats exist both inside and outside 
        traditional network boundaries. The Board's complex short- and 
        long-term challenges in successfully implementing its ZTA are 
        compounded by the decentralized nature of some IT services, 
        which results in an incomplete view of the risks affecting the 
        Board's security posture. Successful implementation of a ZTA 
        will require close partnerships and coordination between Board 
        business lines and divisions and the overall System.

  2.  Optimal integration of ERM and cybersecurity risk management. 
        Board governance structures and reporting relationships between 
        various disciplines need to be refined, and as the Board's ERM 
        program matures, IT governance and risk management processes 
        will need to be aligned.

  3.  Enhanced IT supply chain risk management practices. The Board 
        will need to strengthen processes to ensure that it has 
        effective insight into and knowledge of the cybersecurity 
        environment of third-party and cloud computing providers. 
        Effective IT supply chain risk management will require close 
        coordination and integration across Board divisions and 
        disciplines, such as procurement, ERM, and data management.
Our Work Pertaining to Bank Supervision
    A core mission of the Board is to promote the safety and soundness 
of individual financial institutions and to monitor their effect on the 
financial system as a whole. As part of our independent oversight 
authority, we have conducted numerous engagements to assess and 
identify opportunities to enhance the Board's supervisory programs and 
operations. Our projects assess whether these programs operate 
consistently with applicable laws, regulations, and other standards, 
including supervisory guidance, examination manuals, or management's 
expectations documented in policies and procedures.
    During the 2008 financial crisis, our office performed numerous 
reviews of failed State member banks because of our statutory mandates 
on this topic, and we identified common factors and themes related to 
the cause of the failures and the Board's supervision of the 
institutions. We reported those common themes in a compilation report. 
\1\ Some of the themes included (1) bank management pursuing robust 
growth objectives and making strategic choices that proved to be poor 
decisions; (2) rapid loan portfolio growth exceeding the bank's risk 
management capabilities or internal controls; (3) asset concentrations 
tied to particular types of loans, \2\ which increased the bank's 
vulnerability to changes in the marketplace and compounded the risks 
inherent in individual loans; and (4) bank management failing to have 
sufficient capital to cushion losses. Additionally, our prior reports 
revealed certain practices that contributed to specific failures, such 
as risky funding strategies and incentive compensation programs that 
inappropriately encouraged risk taking. With respect to the supervision 
of the failed State member banks, many of our prior reports noted that 
examiners identified key safety and soundness risks but did not take 
sufficient supervisory action in a timely manner to compel the board of 
directors and management to mitigate those risks.
---------------------------------------------------------------------------
     \1\ Office of Inspector General, ``Summary Analysis of Failed Bank 
Reviews'', September 30, 2011.
     \2\ Frequently, these prior reviews cited concentrations in 
commercial real estate or construction, land, and land development 
loans.
---------------------------------------------------------------------------
    More recently, our office independently decided to initiate reviews 
pertaining to the supervision of certain banking organizations. On 
March 14, 2023, we initiated an engagement addressing the failure of 
Silicon Valley Bank, a State member bank located in Santa Clara, 
California, and supervised by the Federal Reserve Bank of San Francisco 
(FRB San Francisco). We received notice from the Federal Deposit 
Insurance Corporation on the estimated loss to the Deposit Insurance 
Fund last week, thus triggering our statutory requirement to review 
Silicon Valley Bank's failure and supervision by November. \3\ 
Nevertheless, we plan to issue our report in September 2023.
---------------------------------------------------------------------------
     \3\ Section 38(k) of the Federal Deposit Insurance Act, as 
amended, requires that we complete a review of the agency's supervision 
of a failed institution and issue a report within 6 months of 
notification from the Federal Deposit Insurance Corporation OIG that 
the projected loss to the Deposit Insurance Fund is material. Section 
38(k) defines a material loss to the Deposit Insurance Fund as an 
estimated loss in excess of $50 million.
---------------------------------------------------------------------------
    Also on March 14, 2023, we initiated an independent review 
assessing the supervision of Silvergate Bank, a State member bank 
located in La Jolla, California, and supervised by FRB San Francisco. 
Silvergate Bank is an open institution and has voluntarily begun the 
process of liquidation.
    For both reviews, we will seek to evaluate the Board's and FRB San 
Francisco's supervision of the institutions and will make 
recommendations, as appropriate. We anticipate having both reviews 
completed in September. We also continue to monitor banking conditions 
to assess whether other situations may trigger statutory requirements 
or warrant our office initiating reviews.
    In addition to our reviews of the Board's and FRB San Francisco's 
supervision of certain banking organizations, we also use our law 
enforcement authorities to investigate bank fraud committed by bank 
officials who falsified financial records, lied to or misled examiners, 
or obstructed examinations in a manner that may have hindered the 
Board's ability to carry out its supervisory operations.
    Recent high-profile bank fraud investigations include the 
following:

    Former Bank Executives and Others Guilty in First NBC Bank 
        Fraud. In April 2017, the $5 billion First NBC Bank failed. 
        Based in New Orleans, the bank was a subsidiary of First NBC 
        Bank Holding Company, a Board-supervised bank holding company. 
        In a long-running scheme that led to First NBC Bank's collapse, 
        several executives conspired with borrowers to defraud the 
        bank. The executives extended loans to borrowers who were 
        unable to repay them, then extended new loans to the borrowers 
        to cover their existing loans. The executives enriched 
        themselves through fees earned on the loans while concealing 
        their actions--and the true financial condition of the bank--
        from the board of directors and outside auditors and examiners. 
        By the time the bank collapsed, these bogus loans totaled 
        hundreds of millions of dollars. The bank's failure cost the 
        Deposit Insurance Fund nearly $1 billion. Former First NBC 
        President and Chief Executive Officer Ashton J. Ryan, Jr., was 
        found guilty of all 46 counts against him, including bank 
        fraud, conspiracy to commit bank fraud, and making false 
        entries in bank records. Former Executive Vice President Robert 
        B. Calloway, former Chief Credit Officer William J. Burnell, 
        and former General Counsel Gregory St. Angelo all pleaded 
        guilty to conspiracy to commit bank fraud. In addition, several 
        business owners and borrowers pleaded guilty to conspiracy to 
        commit bank fraud. Each faces prison terms ranging from 5 to 30 
        years and fines up to $1 million or the greater of twice their 
        gains or twice the losses to the victims. Others have been 
        convicted for various roles in defrauding First NBC Bank, 
        including a former assistant district attorney for St. Bernard 
        Parish.

    Wells Fargo Agrees to Pay a $3 Billion Civil Monetary 
        Penalty Resolving Criminal and Civil Investigations Into False 
        Sales Practices. Wells Fargo and Co. and its subsidiary, Wells 
        Fargo Bank, N.A., agreed to pay $3 billion to resolve three 
        matters stemming from a years-long practice of pressuring 
        employees to meet unrealistic sales goals, which led thousands 
        of employees to provide millions of accounts or products to 
        customers under false pretenses or without consent, often by 
        creating false records or misusing customers' identities. As 
        part of these agreements, Wells Fargo admitted that it 
        collected millions of dollars in fees and interest the company 
        was not entitled to, harmed the credit ratings of certain 
        customers, and unlawfully misused customers' sensitive personal 
        information.
Our Recent Work on Board Ethics Matters
    In the wake of widespread reporting on personal investment and 
trading incidents involving Board and Federal Reserve Bank officials, 
we have been evaluating and investigating ethics matters at the Board 
and the Reserve Banks.
    In October 2021, the Board requested that we ``conduct an 
independent review of whether the 2020 trading activities of Rob 
Kaplan, President of the Dallas Federal Reserve Bank; Eric Rosengren, 
President of the Boston Federal Reserve Bank; and Rich Clarida, Vice 
Chair of the Board of Governors of the Federal Reserve System violated 
the law or Federal Reserve policies, whether the trading activities 
warrant further investigation by other authorities, and any other 
related matters that you deem appropriate.''
    In response, we initiated separate investigations of Board and 
Reserve Bank officials. Given the public reporting on Chair Jerome 
Powell's December 2019 financial transactions, we independently decided 
to expand our investigation of former Vice Chair Clarida's trading 
activities to also cover the chair's trading activities.
    Our investigation of senior Reserve Bank officials is ongoing, so I 
cannot disclose any details at this time, but we concluded our 
investigation into the trading activities of the senior Board officials 
and publicly released our results. \4\ Although we determined that 
former Vice Chair Richard Clarida's and Chair Powell's trading 
activities did not violate applicable laws, rules, regulations, or 
policies, we reported that
---------------------------------------------------------------------------
     \4\ Office of Inspector General, OIG Closing of 22-0028-I Board 
Trading Activity, July 11, 2022.

    Former Vice Chair Clarida omitted several trades on his 
        2019 and 2020 financial disclosure forms but later notified the 
        Board's ethics official of the omissions and filed an amended 
---------------------------------------------------------------------------
        form, which we verified as accurate

    On behalf of a Powell family trust, a trust financial 
        advisor executed five trades in December 2019 to facilitate 
        charitable donations during a Federal Open Market Committee 
        (FOMC) trading blackout period

    Separately, we initiated an evaluation to assess the design and 
effectiveness of the FOMC's personal investment and trading rules, as 
well as the Board's and the Reserve Banks' approach to monitoring 
personal investment and trading activities for possible conflicts of 
interest. Following the personal investment and trading incidents 
subject to our above-referenced investigations and the subsequent media 
coverage of those incidents in 2021, the FOMC adopted the Investment 
and Trading Policy in February 2022 to support public confidence in the 
impartiality and integrity of the FOMC's work. The policy prohibits 
covered individuals from purchasing individual securities, restricts 
active trading, and revises certain public reporting and disclosure 
requirements, among other things.
    We determined that the new FOMC personal trading and investment 
policy should be enhanced. \5\ Specifically, the Board should determine 
which requirements that apply to senior FOMC officials should also be 
extended to additional staff based on the risk presented by their 
access to confidential FOMC information, ethics programs should be 
strengthened to make reviews of financial disclosure reports more 
uniform and to enforce consequences for policy violations, and the 
information individuals provide in their financial disclosure reports 
should be verified for completeness and accuracy. We made six 
recommendations to address these issues, which the Board concurred 
with. We will monitor the Board's progress in addressing our 
recommendations.
---------------------------------------------------------------------------
     \5\ Office of Inspector General, ``The Board Can Further Enhance 
the Design and Effectiveness of the FOMC's Investment and Trading 
Rules'', OIG Report 2023-SR-B-006, April 26, 2023.
---------------------------------------------------------------------------
Proposals To Reform Federal Reserve Oversight
    Legislation has been proposed that would require presidential 
appointment and Senate confirmation (PAS) of the inspector general (IG) 
for the Board and the CFPB. \6\ The argument is that a PAS IG for the 
Board and the CFPB would be a more independent IG. I want to provide 
you with information about our authorities and operations as a 
designated Federal entity (DFE) IG.
---------------------------------------------------------------------------
     \6\ Office of Inspector General, ``Inspector General Letter on S. 
915, a Bill Regarding Presidential Appointment and Senate Confirmation 
of the Inspector General for the Board and the CFPB'', April 26, 2023.
---------------------------------------------------------------------------
    Our office is as independent as any OIG, whether headed by a DFE IG 
or PAS IG. Further, compared with PAS IGs, we have the same 
authorities, are subject to the same congressional oversight, and are 
subject to the same IG removal provisions.

    We have the same authorities to audit and investigate 
        without interference from our agency heads. We have unfettered 
        access to all agency records and documents; subpoena authority 
        to require the production of records from nonfederal entities; 
        law enforcement powers, such as executing arrest and search 
        warrants; and the ability to hire our own staff and control our 
        own resources. We also have the same reporting mechanisms at 
        our disposal if attempts are made to resist or object to our 
        oversight activities or to significantly delay our access to 
        information.

    We are subject to the same congressional oversight to 
        ensure we are held accountable. DFE IGs are mandated to keep 
        Congress fully and currently informed about issues of fraud, 
        waste, or abuse within our agencies through various reporting 
        mechanisms. We also provide congressional testimonies, 
        briefings, and responses to correspondence and inquiries 
        regarding our work.

    All IGs are subject to removal, whether by the president in 
        the case of PAS IGs or an agency head in the case of DFE IGs. 
        Under the Inspector General Act of 1978, the president or an 
        agency head must notify Congress in writing of the reasons why 
        an IG will be removed at least 30 days beforehand. This 
        safeguard is intended to prevent IGs from being removed for 
        political reasons or simply because they are effectively 
        identifying fraud, waste, or abuse. In our case, there is an 
        added barrier to removal under the Inspector General Act of 
        1978. If a DFE agency is led by a board or a commission, 
        removal of the DFE IG requires the written concurrence of two-
        thirds of the members of the board or commission. In the case 
        of my office, removal would require the approval of four of the 
        seven Board governors, not just the chair.

    In addition, over 1,200 Federal Government positions require Senate 
confirmation. The number and length of IG vacancies over the years have 
raised questions about the effect such vacancies have on the ability of 
OIGs to carry out their statutory duties and responsibilities. A 2018 
study conducted by the U.S. Government Accountability Office found that 
over a 10-year period, PAS IGs had more and longer IG vacancies than 
did DFE IGs. As of April 2023, there were 13 IG vacancies, 7 of which 
are PAS IG positions.
    I believe our current DFE IG structure is best suited to provide 
independent and objective oversight of the Board and the CFPB. I 
welcome the opportunity to further discuss this proposal, as well as 
the proposal to expand our jurisdiction to include the Reserve Banks, 
with Members of the Subcommittee.
Closing
    In conclusion, we have been providing independent, objective 
oversight of the Board and the CFPB to ensure that they work 
efficiently, effectively, and in accordance with the laws, rules, and 
regulations that govern them. We will continue to actively engage with 
internal and external stakeholders to identify existing and emerging 
risks facing the Board and the CFPB so that we can allocate our 
resources to those areas that provide the highest value-added 
oversight.
    Thank you, Chair Warren, Ranking Member Kennedy, and Members of the 
Subcommittee. This concludes my prepared statement. I would be pleased 
to respond to your questions.
                                 ______
                                 
                PREPARED STATEMENT OF PETER CONTI-BROWN
 Class of 1965 Associate Professor of Financial Regulation, Associate 
 Professor of Legal Studies and Business Ethics, The Wharton School of 
                     the University of Pennsylvania
                              May 17, 2023
    Over the past 2 months, three of the roughly 20 banks with assets 
between $100 billion and $250 billion have failed. Of the remaining 17, 
we do not know how many would have failed but for the extraordinary 
interventions of the Government related to the other three. Since March 
12, 2023, we have been in a roiling banking crisis, a fact acknowledged 
by the very interventions that the Fed, Treasury, and FDIC have made to 
prevent this crisis from spiraling into a financial cataclysm.
    Responsibility for the failure of these banks relies primarily with 
the bankers that mismanaged them. But the failures of so much of this 
market segment also invites important questions. The extraordinary 
powers used over the last 2 months were designed or redesigned after 
the 2008 financial crisis, especially through Congress' passage of the 
2010 Dodd-Frank Act. At the time, it was the hope of Congress, the U.S. 
President, and the American people that such unusual and extraordinary 
Government interventions would be rare: rare because individual bank 
failures would be preventable through robust regulation and supervision 
and rare because even if unprevented an individual bank's failure would 
not a systemic crisis make.
    March 12 was the realization that those efforts did not work. The 
questions we must ask ourselves, among many others, are these: (1) what 
did we fail to do in the years leading up to March 2023; (2) what 
changes does this crisis invite us to ponder that can strengthen us 
against future crises; and (3) what changes must we make to restore the 
confidence of the American people in our Government's ability to ensure 
that our financial system stays robust, resilient, and fair for all 
members of our society and not just the wealthiest among us.
    More specifically, I will focus on the consequences of a change in 
supervisory culture, regulatory framework, and legislative context 
since 2017; the need for a better information-gathering system than 
currently exists within the Federal Reserve System, especially with 
respect to an independent, Senate-confirmed Inspector General for the 
System; and removing the stain of special interest from the Fed's 
governance structure, a stain placed by compromise during a different 
time that has long outlasted any useful purposes.
The Consequences of Legislative, Regulatory, and Supervisory Changes 
        Since 2017
The Dodd-Frank Context for Regulation and Supervision
    Dodd-Frank made several vital changes to our financial system as 
relevant to banking crises. In many cases, it was responsive to the 
idiosyncrasies of 2008, including by overhauling the way that 
derivatives are traded and creating a new financial regulatory body 
focused on financial products that consumers may not need or may not 
understand. \1\ In other ways, it sought to create a system that would 
make the financial system more resilient to financial crises of all 
kinds, no matter the specific cause.
---------------------------------------------------------------------------
     \1\ See Titles VII (Derivatives and Swaps) and X (Consumer 
Financial Protection Bureau) of the Dodd-Frank Act, Pub. L. 111-203, 
124 Stat. 1367 (2010).
---------------------------------------------------------------------------
    Among these changes is a kind of theory of financial risk espoused 
in Dodd-Frank. That theory is one of supervisory discretion. As in 
other areas of legislation, Congress deemed financial risk too 
idiosyncratic, too ephemeral and changeable to be managed exclusively 
by legislative fiat. Instead, Congress created a system that gave the 
important decision-making authority to bank supervisors, on the ground. 
These supervisors would be able to monitor financial stress as it 
occurred, in real time, with the ability and authority to intervene 
aggressively when financial risks changed from the necessary and 
tolerable to the unnecessary and intolerable. Supervisors would work 
mostly in secret--indeed, Congress criminalized the supervisors' 
disclosure of this ``confidential supervisory information'' so that the 
exchange of information between banks and Government could be candid, 
free-flowing, and productive. \2\ Regulators like the Federal Reserve, 
FDIC, and Comptroller of the Currency would oversee these supervisors, 
but the real work of accomplishing congressional priorities for 
managing financial risk would belong to these quiet bureaucrats toiling 
in obscurity with the full weight of governmental authority behind 
them. \3\
---------------------------------------------------------------------------
     \2\ See 18 USC 1906. For more, see Peter Conti-Brown, ``The Curse 
of Confidential Supervisory Information'', Brookings Institution 
Report, Friday, December 20, 2019.
     \3\ This discussion draws from my work with Sean Vanatta, 
including in the article ``Risk, Discretion, and Bank Supervision'', 
available here, and our longer history of bank supervision, ``The 
Banker's Thumb: A History of Bank Supervision in America'' (under 
contract, Princeton University Press).
---------------------------------------------------------------------------
    The theory of this focus on bank supervision was not new to Dodd-
Frank. It is a theory older than our Federal banking laws. What Dodd-
Frank did was expand the reach of supervision. Supervisors would be 
able to take idiosyncratic risks and look at the entire system. They 
would be able to use new tools to gather more information to identify 
risks with greater lead times.
    The cost of such supervision is not small, either for the 
Government or for the banks themselves. Reflecting a long-standing 
enthusiasm for protecting smaller banking institutions from the full 
brunt of these costs, Dodd-Frank drew a line--banks with assets below 
$50 billion would not be subject to the enhanced prudential standards 
that would give supervisors even more tools to spot systemic and 
idiosyncratic concerns before they became cataclysmic. Those banks 
above that threshold would, on the other hand, be subject to precisely 
these tools.
    The tools came in a few varieties, some regulatory, most 
supervisory. \4\ On the regulatory side, among many other requirements, 
banks above the $50 billion threshold had to present clear plans for 
how they would fail in an orderly way, without triggering the more 
dramatic interventions that we have seen this year. They would be 
subject to higher liquidity standards to ensure that they could manage 
large withdrawals. \5\ They would be subject to higher capital 
requirements, meaning that they would have to rely on the equity 
markets to fund themselves more extensively than the flighty funding 
they would find in credit markets, including from depositors. And they 
would be subject to annual ``stress tests'' to see how the banks' 
balance sheets would withstand deteriorating economic conditions.
---------------------------------------------------------------------------
     \4\ Enhanced Prudential Standards are found in the Dodd-Frank Act, 
165, supra note 1.
     \5\ See Section 165 of Dodd-Frank, supra note 1.
---------------------------------------------------------------------------
    These legislative and regulatory changes were not the most 
important consequence of the 2008 financial crisis. The more important 
change was in the change to bank supervision, the management of the 
public-private relationship that undergirds our financial system. Even 
without these regulatory changes, the supervisory apparatus expanded 
and reformed after 2008 meant that there would be forward-leaning 
systems in place to catch idiosyncratic risks not anticipated by either 
legislative or regulatory changes.
Changes in 2018: The Consequences of the Economic Growth, Regulatory 
        Relief, and Consumer Protection Act of 2018
    In 2018, after many months of debate, President Trump signed the 
Economic Growth, Regulatory Relief, and Consumer Protection Act. \6\ In 
an era of omnibus bills, often hundreds or thousands of pages long, one 
of the most impressive feats of the EGRRACPA (or S. 2155, as it is more 
commonly known), is its length: the entire bill is just 75 pages long. 
The part that is relevant to the present banking crisis, Title IV of 
that act, is just 5 pages long. In those 5 pages, entitled ``Tailoring 
Regulations for Certain Bank Holding Companies'', Congress changed the 
$50 billion threshold to $250 billion. For those largest banks--of 
which there are currently thirteen--nothing would change on a 
regulatory and legislative level. For banks with assets of $100 billion 
to $250 billion, Congress instructed the Fed to make specific 
determinations about the appropriateness of all enhanced supervisory 
standards before proceeding. The Act did not require a specific 
conclusion on these questions, but at a stroke Congress did require 
that all preexisting regulations be evaluated all over again. \7\
---------------------------------------------------------------------------
     \6\ Pub. L. 115-174 (May 18, 2018).
     \7\ Id. Title IV.
---------------------------------------------------------------------------
    Over the last 2 months, three of the twenty banks within that band 
of $100 billion to $250 billion have failed. (In the somewhat absurd 
vernacular of banking, we call these banks ``regional banks.''). We do 
not know how many of the remaining seventeen would have failed but for 
the emergency declarations and concomitant liquidity support that the 
Federal Government's extraordinary actions facilitated thereafter.
    Thus, while the focus is often on Silicon Valley Bank, the fact is 
that we have had an intolerable failure of a market segment--when 15 
percent of banks fail within the very class that Congress deregulated 
in 2018, we have enough smoke to inquire about the presence of fire.
    One fundamental question for Congress in whether to revisit the 
``regulatory relief'' provided by S. 2155 is to inquire into the 
counterfactual: if the threshold for enhanced prudential supervision 
had stayed at $50 billion, rather than be raised to $250 billion (with 
mandatory evaluations for the ``regionals'' between $100 billion and 
$250 billion), would we have avoided the banking crisis of 2023?
    Counterfactuals, we know, are thought experiments. We cannot answer 
them definitively. But based on the information we have, I believe that 
the answer to this question is yes. In a world without 2155, we would 
not have seen such aggressive expansion by the three failed banks, we 
would not have seen such aggressive risk mismanagement, we would have 
seen more red flags in time to resolve these banks in a more orderly 
way, and we would have sustained a supervisory culture in this specific 
context that would have overridden bank objections when supervisors 
flagged these concerns.
    That is a long list of conclusions that require unpacking. It is 
clear, now as in 2018, that discontinuities in regulatory treatment 
change bank behavior. The very fact that bankers now at the center of 
this crisis lobbied hard for a change in treatment reflects that 
desire. What 2018 did was give a green light for dramatic expansion. In 
the low-interest rate environment of the pandemic, with its clientele 
awash in liquidity, Silicon Valley Bank--to cite one of the three 
examples--decided to pour rocket fuel on its business model, but 
without adequate risk management to prepare for the consequence of such 
growth. If that decision had meant costlier enhanced prudential 
supervision, we can be sure that bankers would have responded with at 
least some caution, some modicum of cost-benefit analysis. Instead, 
they plunged full steam ahead.
    Even if these bankers had made the determination that growth at all 
costs was appropriate, they would have then been subject under the 
original Dodd-Frank to the enhanced liquidity and capital requirements 
that would have presented speed bumps along the way. By early 2023, the 
cake was baked, so to speak. Silicon Valley Bank was a failed 
institution. No amount of liquidity coverage ratios, living wills, 
capital requirements, or stress tests could have prevented it. What 
would have been different was the liquidity and capital context of 2021 
and 2022. In that world, when the cake was still the batter, we would 
have had many more tools and many more warnings to prevent such wild, 
amateurish, and irresponsible risk taking from building into the rush 
of failure.
    This is a point worth emphasis. Rapid growth in banking is almost 
always a dangerous phenomenon, because it reflects a failure of 
diversification in both liability and assets. A sudden influx of 
funding will usually come from one source: a very large client, a very 
large group of brokered deposits, a single sector of the economy 
enjoying a surge in funds. That lack of diversification means the 
failure of that single source can result in the sudden failure of 
liquidity. And with the influx of that funding, banks must make rapid-
fire decisions about where to put that money. In such an environment, 
they are likely to invest without diversification, which takes time. A 
failure in the asset class designated to hold this rapid growth will, 
in turn, be a failure of the newly large bank.
    Dodd-Frank was meant to put brakes on precisely this growth by 
imposing liquidity and capital requirements that would either check 
that growth completely or throw red flags to bankers and supervisors in 
the face of it. For the banks no longer subject to those early warning 
systems, the red flags would be fewer.
What Bank Supervision Got Right, 2021-2023
    Fewer red flags, perhaps, but not missing entirely. Perhaps the 
most frustrating part of the story of the banking crisis of 2023 is the 
fact that these were not esoteric risks that these regional banks were 
taking. In the 2008 crisis, banks invested in such exotic instruments 
that even the bankers and policymakers themselves could not keep up. 
The world sat anxiously by as journalists, central bankers, and many 
others sought to explain the arcana of synthetic collateralized debt 
obligations and naked credit default swaps.
    In 2023, the risks that failed bankers at failed banks say caught 
them by surprise were the most garden-variety risks that any bank faces 
at any time. The basic business model of banking is to lend money out 
through deposits at rates lower than banks receive by investing those 
loaned funds into longer-term assets. In times of tightening financial 
conditions, this means that banks have to make changes--interest rates 
are going up, which means that the money they will have to pay to 
depositors will go up, while that same action will make the assets 
banks hold go down in value. There is an entire vast bank accounting 
apparatus meant to capture these risks, but the overwhelming majority 
of banks and bank supervisors caught this problem early on. As the 
Federal Reserve started aggressively hiking interest rates in 2022, 
banks had to scramble to fix their balance sheets so that they could 
stay solvent.
    Nearly all of them did. In an important study, economists have 
determined that of 4,700 banks in the United States, about 190 of them 
got this basic banking problem wrong and are effectively insolvent 
because they could not change their balance sheet in the long leadoff 
given by the Fed in this period of tightening financial conditions. \8\ 
That is barely 4 percent, meaning 96 percent of banks have successfully 
managed these period of remarkable monetary transition. Another 
question for us to ask about the banking crisis, then, is not why did 
these banks fail, but why didn't more of these banks fail?
---------------------------------------------------------------------------
     \8\ See Erica Xuewei Jiang, Gregor Matvos, Tomasz Piskorksi, and 
Amit Seru, ``Monetary Tightening and U.S. Bank Fragility in 2023: Mark-
to-Market Losses and Uninsured Depositor Runs?'', 24 Mar 2023.
---------------------------------------------------------------------------
    One important reason for this lack of failure is probably because 
bank supervision largely still works with incredible efficacy. Because 
the details of nearly every interaction between bank and bank 
supervisors is cloaked in secrecy, there is a fundamental asymmetry in 
bank supervision. Bank supervisors' failures become extremely public 
and often demoralizing. Bank supervisors' successes are wrapped in 
secrecy.
What Supervision Got Wrong, 2021-2023
    A 96 percent success rate in these monetary conditions is an 
enormous credit to the U.S. banking system, including the U.S. bank 
supervisory system. But the fact that the three major failures were 
enough to tilt us into a costly, unjust, and inefficient bailout of 
banks and bank depositors is extremely troubling. What, then, went 
wrong?
    The basic discretionary activities of bank supervisors who monitor 
the simple, predictable, and predicted blunders of failed bankers did 
not go wrong, at least not in general. According to the postmortem 
conducted by the Federal Reserve after the failure of Silicon Valley 
Bank, bank supervisors did anticipate the very concerns, on both the 
liability and the asset sides of the balance sheets. It was a relief to 
read this supervisory fact, but not a surprise. Again, the failures at 
these banks were so basic as to be mystifying. The efforts by these 
bankers to displace blame to the macroeconomic, monetary, and even--
perhaps most alarmingly--the social media context is sheer codswallop. 
\9\ None of these factors comes anywhere near explaining why these 
failed bankers did so poorly at their work. Bankers knew that they were 
taking these breathtaking risks. Even when they didn't know because 
their business talents were wanting they soon learned because they 
received warnings from bank supervisors.
---------------------------------------------------------------------------
     \9\ See Greg Becker, Testimony before the U.S. Senate Committee on 
Banking, Housing, and Urban Affairs, May 16, 2023.
---------------------------------------------------------------------------
    Here, then, is perhaps the most important legacy of S. 2155. 
Supervisors, even after the passage of that Act, retained discretion to 
warn bankers of their misbegotten behavior. What they lacked was a fast 
and nimble institutional apparatus to change that banker behavior. For 
that, supervisors need support from regulators, who need support from 
Congress.
    Supervisors raised red flags at Silicon Valley Bank. They almost 
certainly raised similar flags at other banks. Those other banks made 
important changes to their funding and assets in 2021-2022; Silicon 
Valley Bank (and perhaps others) did not. If those failed banks had 
paid the same heed to their supervisors that the successful banks did, 
there would have been no banking crisis in 2023. That the failed banks 
felt they could ignore their supervisors with impunity tells us 
something that is broken within bank supervision. Banks mostly do a 
very good job working productively with bank supervisors. What becomes 
problematic is when they don't. Silicon Valley Bank did not work well 
with supervisors. It didn't work well at almost anything. We need a 
system for that kind of misbehavior, too.
    Perhaps more than anything, this is the legacy of S. 2155. 
Regulatory relief meant, even sometimes explicitly, pulling back on the 
ability of supervisors to force bankers to wake up to the risks that 
they had taken.
    When we encounter a crisis of an entire asset class rendered 
recently insulated from enhanced regulatory scrutiny, we should ask 
ourselves not only whether that scrutiny would have prevented the 
crisis. I think the counterfactual suggests that increased scrutiny 
would have made all the difference, but recognize that scholars will 
continue to analyze the banking crisis of 2023 for years to come. The 
question, then, is slightly different. We should ask ourselves whether 
these regulatory and supervisory changes are good in themselves. That 
debate should be clear: so-called regional banks controlling more 
assets than the GDP of the country of Greece do indeed impose systemic 
risk to the rest of us. We should design our regulatory and supervisory 
strategies not only for the outstanding majority of banks that either 
spot their own risks or work well with supervisors to do so when they 
have been slow at that basic task. We need a system that will require 
banks to make those changes before their misbehavior triggers a 
financial crisis for us all.
The Need for Better Information From Within the Fed
    I present my main conclusions about the legislative, regulatory, 
and supervisory changes we should see as a result of the banking crisis 
of 2023 in Part I above. But there is more to learn. One of the most 
important questions, given the discretion that S. 2155 still provided 
to it, is why and how it exercised that discretion during the critical 
period leading up to the crisis. This includes two full years during 
the Biden administration when the President of the United States made 
clear a set of regulatory and supervisory priorities that the Fed 
appeared not to follow. It includes, too, the answers to the questions 
posed above: why did supervisory warnings not turn into supervisory 
actions?
    Almost immediately after the March 12 triggering of extraordinary 
Federal authority, Fed Chair Jerome Powell and Vice Chair for 
Supervision Michael Barr announced a ``careful and thorough review'' of 
the supervisory and regulatory failings that preceded the collapse of 
Silicon Valley Bank. \10\ The subsequent report contained the Fed's 
overview of these failures, including detailed excerpts of examination 
reports usually subject to restrictions on confidential supervisory 
information. \11\
---------------------------------------------------------------------------
     \10\ Federal Reserve Board announces that Vice Chair for 
Supervision Michael S. Barr is leading a review of the supervision and 
regulation of Silicon Valley Bank, in light of its failure, March 13, 
2023.
     \11\ Review of the Federal Reserve's Supervision and Regulation of 
Silicon Valley Bank, April 28, 2023.
---------------------------------------------------------------------------
    These disclosures are laudable. The conclusions of this report in 
some respects make good sense. But in my view, the investigation should 
never have occurred in public. The Federal Reserve and the 
extraordinary public servants who work therein are good at many things. 
They are not good at self-investigation for purposes of public 
accountability.
    Nor should we expect them to be so. \12\ The Fed, through its 
history, has been among the very best institutions at navigating 
political complexity to its favor. Congress, even in the face of 
financial crisis or scandal, has expanded the Fed's authorities, 
sometimes even over the Fed's own objections. It has rarely removed 
that authority. \13\ This is not an accident: the Fed fiercely manages 
its own reputation; cultivates politicians, journalists, and academics; 
and otherwise seeks to protect its own interests.
---------------------------------------------------------------------------
     \12\ I make these arguments in a forthcoming comprehensive 
political history of the Federal Reserve, ``The Federal Reserve: An 
American History'' (forthcoming, WW Norton).
     \13\ An exception is in Title X of Dodd-Frank, which removed most 
consumer financial protection oversight from the Fed and deposited it 
at the Consumer Financial Protection Bureau.
---------------------------------------------------------------------------
    I do not fault the Fed for this role. Its institutional character 
and policy prerogatives are important. But these very facts, these very 
principles, mean that it provides too much of its own oversight. This 
cannot be. The Fed cannot supervise itself. That is Congress' job.
    Congress did create Inspectors General in 1978 to provide some of 
this oversight. \14\ The inspector general for the Federal Reserve, 
however, is appointed by consultation between the Fed and the CFPB, 
which shares a single individual inspector general. To be more precise 
still, this inspector general oversees only the Fed's Board of 
Governors, not the Federal Reserve System.
---------------------------------------------------------------------------
     \14\ Pub. L. 95-452, 92 Stat. 1101 (October 1, 1978).
---------------------------------------------------------------------------
    We need better accountability than this system provides. In 
particular, I recommend three changes. First, the CFPB and Federal 
Reserve should be separated for these purposes. Their functions, 
structure, and purposes are all different. The oversight Congress 
requires for each agency should reflect those differences. Second, the 
Inspector General for the Federal Reserve should be for the full 
Federal Reserve System, including the Federal Reserve Banks and not 
just the Fed's Board of Governors. Much of the policymaking as relevant 
to banking crises (and much more) includes the participation of the 
Federal Reserve Banks. They require congressional oversight too. And 
finally, the Inspector General for the Fed should be a separate 
presidential appointment, confirmed by the Senate. This is all the more 
important because other forms of accountability and oversight, 
principally through the courts, is mostly foreclosed when it comes to 
the Fed. A presidential appointment will enhance the independence and 
credibility of the Inspector General in a way the position does not 
currently enjoy.
Restoring the Fed's Credibility by Removing Bankers From Federal 
        Reserve Bank Boards
    The Federal Reserve Act, signed into law by Woodrow Wilson on 
December 23, 1913, created a somewhat circuitous institution. It is a 
melange of institutions and individuals sometimes with ambiguities 
about who holds responsibility and to what end. Even when Congress 
rewrote that structure in 1935 to place most authority for the Fed's 
functions in Washington, DC, it left the curiosities largely in place.
    The most nefarious of these is the presence, by law, of private 
bankers and those appointed by private bankers on the boards of 
directors of the twelve Federal Reserve Banks. The role of these 
private bankers has changed over time, but crises like the present 
invite opportunity to reflect on a more basic question: what business 
do these bankers have with formal, institutionalized seats at the table 
of their own regulators?
    No business, is the answer. Their presence invites mischief. Either 
their presence matters, which means they have influence over their own 
supervisors, whatever that influence may be. Or their presence doesn't 
matter, in which case they give us the appearance of conflicts that 
invite conspiracies and destabilize confidence in the entire System.
    This mischief is not mere conjecture. Until days before Silicon 
Valley Bank's collapse, its now disgraced former CEO Greg Becker sat on 
the board of directors of the Federal Reserve Bank of San Francisco. We 
do not know what role, if any, his presence played in the supervisory 
failures that preceded SVB's collapse. I doubt he manipulated the Fed 
through this formal role. The very fact that we are asking the question 
and having this discussion--which, to be clear, requires investigation 
to confirm these doubts--is a tragic waste of resources and Fed 
credibility.
    For this reason, I support efforts to render these boards of 
directors advisory only, to give to the Board of Governors plenary 
appointment authority over the individuals who will hold these advisory 
positions, and remove from all banks the franchise to vote in their own 
to supervise their supervisors. The political compromises and context 
of the United States during the Wilson administration no longer apply. 
The time is far past to render these important public institutions 
fully public, to avoid both the appearance and fact of these conflicts.
    To be clear, I do not wish to overclaim and assert that if Mr. 
Becker had not been on the board of the San Francisco Fed that the 
supervisory failures associated with SVB would not have occurred. We 
have no evidence about what Mr. Becker's role did or did not mean to 
those supervisory processes. My point is only that every minute we 
spend wondering about this conflict is a minute that takes away from 
the Fed's credibility as a public institution endowed with protecting 
all interests, not just the special ones.
Conclusion
    To conclude, the banking crises of 2023 were preventable. 
Government intervention to the spectacular degree that we have seen 
should not have occurred. There were failures of bankers, bank 
supervision, bank regulators, and a legislative regime altered too far, 
too fast, too soon after the last avoidable financial crisis. Some of 
the reforms I advocate here--enhancing prudential supervision for banks 
with assets between $100 billion and $250 billion, for example--are 
directly responsive to these challenges. Others are about information 
and accountability (changes to the Fed's inspector general) and 
perception (removing bankers from Federal Reserve Bank governance). I 
hope we can take advantage of the lessons learned and the future crises 
we hope to avoid from these unfortunate 2 months.
                                 ______
                                 
                  PREPARED STATEMENT OF PAUL H. KUPIEC
              Senior Fellow, American Enterprise Institute
                              May 17, 2023
Supervisory Lessons From the SVB Failure
    Chair Warren, Ranking Member Kennedy, and Subcommittee Members, 
thank you for the opportunity to testify at today's Economic Policy 
Subcommittee meeting, ``Strengthening Accountability at the Federal 
Reserve: Lessons and Opportunities for Reform''. I am Paul Kupiec, an 
economist and senior fellow at the American Enterprise institution 
where I follow banking, financial system, and Federal Reserve issues. 
This testimony reflects my own personal views and assessments and not 
those of the American Enterprise Institute which, as a matter of 
policy, espouses no institutional views of its own.
    My background includes almost a decade of service at the Federal 
Reserve Board and a similar term at the FDIC. In my time at the FDIC I 
had extensive interactions with bank regulation, examination, and 
supervisory activities both as Chairman of the Basel Committee's 
Reserve Task Force and as the FDIC Associate director who managed the 
economists that ran the FDIC's own early warning econometric models and 
economists that assessed the adequacy of bank stress test and other 
internal models during the course of bank examinations.
    My testimony will focus on the proximate causes of the SVB bank 
failure, the supervisory role of the Federal Reserve and Board of 
Governors (BOG) of the Federal Reserve, issues related to the FDIC, the 
use of the systemic risk exception, and reforms might help to prevent a 
repeat of this unfortunate episode.
    I begin with a summary of my supervisory findings regarding the SVB 
failure and my recommendations for reforms:

    The precarious nature of SVB's condition was obvious from 
        regulatory call report information. There was no need to know 
        anything about SVB's internal liquidity stress tests, internal 
        regulatory capital stress tests, the results of a Federal 
        Reserve Board stress test, its high quality liquid asset 
        requirement under the Liquidity Coverage Ratio stress test, or 
        the results of any other complex model-derived regulation to 
        see that, by early March 2023, SVB was likely insolvent on a 
        mark-to-market basis and in danger of experiencing a serious 
        deposit run should its uninsured depositors recognize the 
        bank's true condition.

    S. 2155 had nothing to do with the failure of SVB. The S. 
        2155 tailoring requirements deal with the Dodd-Frank enhanced 
        regulations for large bank holding companies. In SVB's case, 
        the risks were obvious, and they were in SVB bank, and not in 
        SVB's holding company.

    Federal banking regulators, including Federal Reserve bank 
        supervisors, have ample powers under prompt corrective action 
        legislation and related regulations to remedy any serious 
        safety and soundness issues bank examiners identify in a 
        regulated bank like SVB. Timely and proper exercise of the 
        Fed's prompt corrective action powers could have been used to 
        de-risk SVB.

    Virtually all of the corrective supervisory recommendations 
        made to SVB concerned processes associated with model-based 
        large bank regulations or procedures to measure, set, and 
        monitor internal risk limits. None of the supervisory 
        communications actually spoke to SVB's actual liquidity risk 
        associated with the SVB's precarious funding mix, the financial 
        ramifications of its interest rate risk profile, or the bank's 
        true capital adequacy risks.

    The failure of the Federal Reserve's examination team to 
        appreciate the impact of rising short term interest rates on 
        the market value of SVB's held-to-maturity securities is 
        shocking given that the bank reports this data in its quarterly 
        regulatory call reports. Moreover, the Federal Reserve System 
        was itself at the time experiencing a huge $1 trillion 
        unrealized market value losses on the held-to-maturity 
        securities in its system open market account.

    The Board of Governors of the Federal Reserve's November 
        2022 Financial Stability Report failed to highlight any of the 
        issues that caused SVB, Signature Bank and First Republic Bank 
        to fail.

    SVB is an example of a situation for which the FDIC's back-
        up authority was designed. I see no evidence that the FDIC 
        pushed back on the Fed's lack of zeal in enforcing prompt 
        corrective actions even though the FDIC's early warning models 
        must have identified SVB as a failure risk.

    It is highly unlikely that the FDIC's large bank deposit 
        insurance premium assessment system charged SVB bank anywhere 
        near an appropriate deposit insurance premium since the FDIC's 
        assessment system does not seem account for the risk features 
        that caused SVB to fail.

    Dodd-Frank Orderly Liquidation Authority was designed to 
        resolve a large failing banking organization without creating 
        systemic risk. OLA was not used to resolve SVB. It is important 
        to understand why it was deemed inappropriate.

    Some of the possible steps that, in my opinion, might reduce the 
probability of similar incidents in the future include:

    I agree with the GAO recommendation to revisit the rules 
        and guidance related to the use of prompt corrective action 
        powers to add explicit nonregulatory capital triggers that 
        would mandate remedial examiner actions.

    Federal bank supervision and regulation of banks and bank 
        holding companies has become exceedingly complex with a heavy 
        reliance on economic modelling and hypothetical simulation 
        exercises, especially in regard to large bank and bank holding 
        company supervision. The SVB supervisory experience suggests 
        that the emphasis on models has perhaps required too many bank 
        supervision resources to be devoted to assessing modelling 
        issues at a cost of distracting examiners from evaluating 
        important fundamental bank risks obvious in call report data.

    The power of the Federal Reserve Board, FDIC and Secretary 
        of the Treasury to declare a systemic risk exception and 
        release the FDIC from its least cost resolution mandate is not 
        constrained by any checks and balances in legislation. Once a 
        systemic risk exception is declared, the FDIC could use orderly 
        liquidation authority to resolve an institution, issue blanket 
        deposit insurance guarantees as it did in the case of SVB, 
        guarantee bank holding company debt as it did in the past 
        financial crisis, or perhaps take other measures. There should 
        be some accountability structure put in place to guide the 
        policies taken once a systemic risk exception is declared.

    The FSOC and Federal Reserve Board are not very prescient 
        when it comes to their assessments of issues constitute a 
        systemic risk to the financial system. In fact, systemic risk 
        is a term that is never defined in the Dodd-Frank Act even 
        though the FSOC is empowered to require Federal regulator 
        agencies to promulgate regulations to control the systemic 
        risks it identifies. This ambiguity has made the FSOC a 
        political tool rather than a trusted independent voice on 
        actual risks that threaten financial stability.

    FDIC risk-based deposit insurance premiums are not. The 
        FDIC's approach for setting risk-based deposit insurance 
        premiums for large banks needs to be revisited.

    Improve Federal Reserve oversight and accountability. A 
        Senate confirmed IG may help. District banks should be subject 
        to FOIA. Congress should also enhance its committee resources 
        dedicated to Federal Reserve oversight.
The Silicon Valley Bank Failure
    SVB grew very quickly during the COVID crisis without adequate risk 
management. It business model was concentrated on attracting large 
uninsured deposit balances from venture capitalists, their businesses, 
and private equity clients. Most of the bank's accounts held balances 
in excess of the FDIC $250K insurance limits. For the most part, these 
accounts were not business transaction accounts, but were money market 
deposit accounts (MMDAs).
    Transactions accounts are typically ``sticky'' because they are 
associated with bank-provided financial services that are critical to 
running a business. It takes time and effort to move these types of 
accounts a new bank. In contrast, MMDAs have the character of liquid 
investments. They are typically placed by customers to earn a safe but 
modest return until they are needed to fund some other investment. MMDA 
balances are much more likely to be quickly withdrawn should depositors 
lose confidence in a bank. They are also more likely to migrate to 
higher yielding U.S. Treasury securities and SEC regulated money market 
mutual funds in a rising interest rate environment.
    SVB ultimately failed because it did not have the resources to meet 
an unanticipated surge of MMDA deposit withdrawals after events taken 
by the bank's management caused the SVB's customers to question the 
bank's viability.
Rapid Growth Fueled by Uninsured Deposits
    According to regulatory call report data, as far back as December 
31, 2019, SVB's funding was concentrated in deposits with account 
balances in excess of the $250K FDIC insurance limit. In December 2019, 
SVB had a little over 52 thousand fully FDIC-insured domestic accounts 
with total balances of $2.2 billion and about 19 thousand domestic 
accounts over the deposit insurance limit. The latter, less than fully 
insured deposit accounts, had total deposits of $55 billion.
    Notwithstanding more than 96 percent of its domestic deposits held 
in accounts that were above the FDIC insurance limit, based on its 2019 
examination, the Federal Reserve, the bank's primary Federal regulator, 
assigned the bank a CAMELS \1\ component liquidity rating of 1, the 
highest possible rating. The bank was assigned a risk management rating 
of 2 indicating the examiners judged the bank's risk management to be 
``fundamentally sound''. SVB's received an overall composite CAMELS 
rating of 2.
---------------------------------------------------------------------------
     \1\ The CAMELS rating is the confidential bank rating assigned 
under the FFIEC's Uniform Financial Institution Rating System. The 
system is supposed to evaluate significant financial and operational 
factors that impact a bank's safety and soundness. The system assigns a 
separate numerical rating for five risk factors: C-capital adequacy; A-
asset quality; M-bank management quality; E-bank earnings; L-bank 
liquidity; and, S-bank sensitivity to market risk. Components are rated 
on a scale of 1 through 5: 1=Strong; 2=Satisfactory; 3=Less than 
Satisfactory or Fair; 4=Deficient; and, 5=Critically Deficient. The 
bank is also assigned a composite CAMELS score that reflects its 
overall comprehensive examination rating.
---------------------------------------------------------------------------
    Between December 31, 2019, and December 31, 2020, SVB grew from 
$69.9 billion to $113.8 billion in total assets. The bank's growth was 
fueled by attracting deposits over the FDIC insurance limit. At the end 
of 2020, fully insured account balances had grown to $2.4 billion while 
SVB added about 4 thousand accounts with balances over the insurance 
limit. The latter accounts, 23 thousand of them, had total balances of 
$92.4 billion. SVB bank raised 97.5 percent of its domestic deposits 
from accounts with balances in excess of the FDIC insurance limit. On 
average, these large balance accounts held about $4 million each. For 
comparison purposes, as of Year-end 2022, the entire U.S. banking 
system had about $18 trillion in domestic deposits of which $7 trillion 
\2\ (or about 43 percent) were in accounts with balances in excess of 
the FDIC insurance limit.
---------------------------------------------------------------------------
     \2\ www.fdic.gov/analysis/quarterly-banking-profile/qbp/2022dec/
qbp.pdf Table 1-C
---------------------------------------------------------------------------
    SVB received its 2020 bank examination CAMELS rating in May 2021. 
It was rated 1 for liquidity and 2 for risk management. Its overall 
composite CAMELS rating was 2, again implying that the bank was 
fundamentally sound. The supervisory letter informing SVB of its CAMELS 
ratings summarizes the bank's examination findings:

        The overall condition of Silicon Valley Bank (SVB or Bank) 
        remains satisfactory . . . The institution's overall financial 
        condition and financial risk management practices remain 
        satisfactory. Board of Director (Board) and management 
        oversight is generally satisfactory. Capital levels and 
        planning are adequate relative to SVB's risk profile including 
        rapid asset growth over the prior year . . . Earnings are at a 
        satisfactory level, although are unable to accrete capital at a 
        pace equal to asset growth. Liquidity is strong with sufficient 
        sources of liquid assets capable of absorbing fluctuations in 
        funding needs. Sensitivity to market risk and practices to 
        measure and control market risk are satisfactory.

    By year-end 2021, SVB bank grew its assets to $208.6 billion. SVB's 
growth was again funded by large uninsured deposit balances. It 
attracted an additional $2 billion in fully insured domestic deposits 
and $78.5 billion in new domestic accounts over the $250K FDIC 
insurance limit. Again, only 2.5 percent of its domestic deposits were 
held in accounts that benefited from full FDIC insurance coverage. The 
bank had 34,727 accounts that on average held balances of almost $5 
million each. $158.5 billion of its deposits were held in large balance 
MMDA accounts. The bank reported owning $98 billion in high quality 
U.S. treasury and agency securities in its held-to-maturity portfolio 
valued on an amortized cost basis. The market value of these securities 
was estimated to be $97 billion.
    Following SVB's 2020 bank examination cycle, the Federal Reserve 
migrated the SVB from the Fed's regional bank supervision portfolio to 
its large and foreign bank organization (LFBO) supervision portfolio. 
According to the Fed's discussion of the SVB bank failure, this change 
should have led to intensified Federal Reserve examination efforts 
including annual ``horizontal reviews'' of banks in the LFBO portfolio. 
SVB would be assigned more examination resources including staff with a 
greater depth of experience in assessing the safety and soundness and 
identifying any required corrective supervisory actions needed in large 
financial institutions. The Fed's LFBO supervision process also 
includes an annual review and assessment of a large bank's holding 
company. \3\
---------------------------------------------------------------------------
     \3\ LFBO holding companies are rated on three components: capital 
planning and positions; liquidity risk management and positions; and, 
governance and controls. Each component is rated on a 4-point scale: 
broadly meets expectations; conditionally meets expectations; deficient 
-1; and deficient -2. A holding company must receive a broadly or 
conditionally meets expectations on each rating component to be 
considered ``well managed''.
---------------------------------------------------------------------------
    Allegedly, as a consequence of delays associated with the handoff 
off of SVB's supervision from the regional bank supervision process to 
the LFBO process managed from the Federal Reserve Board and the Board's 
implementation of S. 2155 ``tailoring regulations'', SVB's 2021 bank 
examination rating and associated supervision letter was not delivered 
until August 17, 2022. \4\
---------------------------------------------------------------------------
     \4\ The supervisory letter indicates the results were verbally 
conveyed to SVB's board of directors on July 21, 2022.
---------------------------------------------------------------------------
    The Fed's 2021 LFBO holding company exam rated SVB's holding 
company as: deficient -1 in its governance and controls rating; 
conditionally meets expectations in its liquidity rating; and broadly 
meets expectation in its capital rating. The supervisory letter 
informed the holding company management that its board oversight, risk 
management program, and internal audit functions were ``less than 
effective''. The LFBO assessment of the holding company's management of 
liquidity stated:

        While actual and post-stress liquidity positions reflect a 
        sufficient buffer, the firm lacks several foundational 
        liquidity risk management elements. These missing elements may 
        negatively affect the sufficiency of the Firm's post-stress 
        liquidity buffer. Notable elements that management must address 
        include more granular deposit segmentation to produce effective 
        modeling of deposit outflows during stress; more comprehensive 
        testing of its contingent funding plan to assess the 
        feasibility of funding options under stress; and more effective 
        challenge provided by the second line independent risk function 
        to ensure that the first line Treasury business unit has 
        appropriately executed its liquidity risk management 
        responsibilities.

    The LFBO assessment of the holding company's capital planning 
process stated:

        The firm's actual and internal post-stress capital positions 
        reflect a sufficient buffer to comply with applicable 
        regulatory requirements and to serve as a financial 
        intermediary through a range of conditions.

    However, examiners did raise issues with SVB's holding company 
liquidity management:

        Key liquidity risk management deficiencies, identified in the 
        Liquidity Target Examination supervisory letter issued on 
        November 2, 2021, include internal liquidity stress testing 
        design weaknesses, such as the lack of deposit segmentation, 
        the lack of differentiation between market and idiosyncratic 
        risk scenarios, and the lack of testing of the firm's 
        contingency funding plan. The examination also identified a 
        lack of effective challenge by the second line independent risk 
        function over the first line treasury business unit.

    SVB's 2021 CAMELS ratings were: Capital =2; Asset quality =2; 
Management =3; Earnings =2; Liquidity = 2 (downgraded from 1); and, 
Sensitivity to market risk =2. The bank's overall CAMELS composite 
rating was 3, indicating that in the examiners' opinion, from a safety 
and soundness perspective, the bank's condition was ``less than 
satisfactory or fair''.
    To summarize, SVB and its holding company received their last full-
scope examination report before failing in the late summer of 2022. The 
report was based on the bank and holding company 2021 examination 
findings. The Federal Reserve LFBO examination team assessment rated 
Silicon Valley Bank overall condition as ``fair'' and not 
``fundamentally sound'' primarily because of management weakness. The 
examination team had issues with the bank holding company's liquidity 
management process that needed to be improved but said that the holding 
company and SVB bank both had adequate liquidity. The examination 
report mentioned no issue regarding the bank or the holding company's 
capital adequacy and planning process or its interest rate risk 
exposure. Indeed, in October 2022, SVB received another supervisory 
letter, its last before failing, informing the bank's holding company 
of the results of the LFBO examination team's horizontal review of the 
financial group's capital adequacy and planning process. The report 
stated:

        The Capital rating for SVBFG remains unchanged at Broadly Meets 
        Expectations (BME). SVBFG maintains adequate levels of high-
        quality capital to support ongoing operations and initiatives 
        commensurate with its risk profile. The firm's internal post-
        stress capital positions reflect a sufficient buffer to comply 
        with applicable regulatory requirements and support the firm 
        through a range of conditions.

    Notwithstanding SVB's ``fundamentally sound'' liquidity and capital 
adequacy ratings, in a few short months SVB's embedded interest rate 
risk would render it insolvent on a mark-to-market basis and spark a 
massive depositor run that would overwhelm SVB's liquidity.
    SVB's growth continued into 2022. By March 31, it held almost $218 
billion in assets funded by $17.6 billion in foreign deposits and $182 
billion in domestic deposits, $179 billion of which were held in 
accounts with balances in excess of the FDIC insurance limit. SVB's 
March call report showed no Federal Home Loan Bank advances and $98.7 
billion in held-to-maturity assets with an estimated market value of 
$91.7 billion. According to call report data, in the first 3 months of 
2022, SVB's unrecognized mark-value losses on it held-to-maturity 
securities portfolio increased from $1 billion to $7 billion. All of 
this information is reported in the SVB's call report
    As the Federal Reserve began to raise short term interest rates 
beginning in late March 2022, SVB started to shed both deposits and 
assets. It should not have been difficult for examiners to forecast 
that large MMDA deposit balances might leave SVB for higher yields 
being offered by short-term Treasury securities and money market funds. 
Moreover, higher interest rates increased the unrecognized losses on 
SVB's held-to-maturity securities portfolio.
    By June 30, SVB's assets had declined to $212 billion. It foreign 
deposits shrank by $2 billion; its domestic deposits fell to $175 
billion as more than $8 billion were withdrawn from accounts with 
balances in excess of the FDIC insurance limit. SVB used $3.5 billion 
in advances from the Federal Home Loan Bank of San Francisco to replace 
a portion of the withdrawn deposit funding. The bank's unrecognized 
losses on its held-to-maturity securities portfolio increased to $11.2 
billion.
    By September 31, SVBs assets had declined by another $1.6 billion. 
Its domestic deposits declined $10 billion, again driven by withdrawals 
from uninsured accounts. Foreign deposits fell by $1.5 billion. SVB's 
Federal Home Loan Bank advances increased to $13.5 billion and its 
unrecognized losses on its held-to-maturity portfolio increased to 
almost $16 billion.
    By year-end 2022, SVB had $208 billion in assets. Domestic deposits 
declined by another $5 billion in the fourth quarter and its Federal 
Home Loan Bank advances increased to $15 billion. SVB's unrealized loss 
on its held-to-maturity securities stood at $15.2 billion.
    SVB's unrecognized losses on held-to-maturity securities and loans 
\5\ were not counted in the bank's regulatory capital requirements. 
However, beginning in early March 2023, investors and depositors were 
aware of these losses when evaluating the viability of SVB bank. While 
the bank satisfied all of its regulatory capital requirements, taking 
these unrealized losses into account (subtracting the bank's unrealized 
losses from the bank's nearly $17 billion in Tier 1 capital) the bank 
was likely insolvent on a mark-to-market basis. Depositors and 
investors could have learned this fact from the bank's regulatory call 
reports, the last of which became public information in late February 
2023.
---------------------------------------------------------------------------
     \5\ Bank long-term loans and leases are not marked-to-market to 
reflect changes in interest rates. According to its December 31, 2022 
regulatory call report, SVB had $73.6 billion in loans and leases net 
of loan loss allowances. Of these, about $6 billion were residential 
mortgages with remaining maturity over 5 years. The bank also had about 
$2 billion of loans and leases with maturity over 5 years that were not 
secured by residential properties. Taken together, these $8 billion of 
long-maturity loans and leases would have had significant mark-to-
market losses that were not recognized in SVB's regulatory capital 
requirement calculations.
---------------------------------------------------------------------------
    I stress that all of the information I have just presented--
excepting information contained in SVB's redacted confidential 
supervisory letters released by the California Department of Financial 
Protection and Innovation and the Federal Reserve Board--is based on 
data reported in SVB's quarterly regulatory call reports. These reports 
become public information roughly 6 weeks following the end of a 
quarter.
    The precarious nature of SVB's condition is obvious from regulatory 
call report information. There is no need to know anything about SVB's 
internal liquidity stress tests, internal regulatory capital stress 
tests, the results of a Federal Reserve Board stress test, its high 
quality liquid asset requirement under the Liquidity Coverage Ratio 
stress test or the results of any other complex model-derived 
regulation to see that, by early March 2023, SVB was likely insolvent 
on a mark-to-market basis and in danger of experiencing a serious 
deposit run should its uninsured depositors recognize the bank's true 
condition. It should not take a senior highly experienced bank 
examiners let alone a team of Federal Reserve Board LFBO examiner-
overseers to recognize SVB's heightened risk of failure.
Depositors Recognize the Bank's True Condition
    With SVB's deposit exodus continuing, the bank needed to raise cash 
and equity capital. In a March 8 letter to it investors, SVB wrote,

        We have sold substantially all of our Available for Sale (AFS) 
        securities portfolio with the intention of reinvesting the 
        proceeds, and commenced an underwritten public offering, 
        seeking to raise approximately $1.75 billion between common 
        equity and mandatory convertible preferred shares. As a part of 
        this capital raise, General Atlantic, a leading global growth 
        equity fund and longstanding client of SVB, has committed to 
        invest $500 million on the same economic terms as our common 
        offering for a total raise of $2.25 billion.

    SVB's sale of its available for sale securities resulted in an $1.8 
billion after tax loss and its attempt to raise new capital failed.
    The bank's assurance of its financial soundness rang hollow with 
its depositors. SVB experienced $42 billion in deposit withdrawals on 
March 9. On March 10, $100 billion in deposits tried to flee the bank. 
SVB was unable to satisfy depositor withdrawal demands and was closed 
by the California Department of Financial Protection and Innovation and 
the FDIC was appointed as receiver.
Bank Supervision Issues
    From an ex post perspective, it is obvious that SVB failed because 
it had an unsustainable business model and was poorly managed. It is 
the job of Federal and State bank supervisors to identify bank 
management weaknesses, unsustainable bank risk taking behavior while a 
bank is still viable and require remedial bank actions to restore safe 
and sound bank practices and reduce the chance the bank will fail. In 
the case of SVB, bank supervisors failed to do their job.
    Federal Reserve bank supervisors did identify several risk 
management weaknesses that needed to be improved. They shared their 
concerns with SVB management, but not always in a timely manner. 
Supervisors did not aggressively push bank management to institute 
recommended remedial actions. Moreover, it is doubtful that the 
remedial actions supervisors communicated in their ``matters acquiring 
(immediate) attention'' would have prevented SVB's failure had the bank 
implemented them in a timely manner. The issues examiners identified 
did not focus on curing the fundamental deposit concentration, interest 
rate risk and capital inadequacies that ultimately caused SVB to fail.
    Vice-Chair Barr's review of the SVB failure identifies supervisory 
shortcomings, but seemingly attributes these shortcomings to Federal 
Reserve Board supervision policies implemented to comply with the 
regulatory tapering requirements of S. 2155, the 2018 Economic Growth, 
Regulatory Relief, and Consumer Protection Act. To quote Vice Chair 
Barr's cover letter to his SVB review:

        The Board's tailoring approach in response to the Economic 
        Growth, Regulatory Relief, and Consumer Protection Act 
        (EGRRCPA) and a shift in the stance of supervisory policy 
        impeded effective supervision by reducing standards, increasing 
        complexity, and promoting a less assertive supervisory 
        approach.

    The Fed's report on the failure of SVB leans heavily on the 
innuendo that, while imposing the regulatory tapering requirements of 
S. 2155, then Vice-Chair Quarrels mishandled the Federal Reserve's 
Board's transition to an S. 2155-complaint supervision oversight 
processes. The relevant section of S. 2155 that could have had impacted 
SVB's supervision required the Fed:

        [W]ith respect to nonbank financial companies supervised by the 
        FRB and certain bank holding companies, to:

    increase the asset threshold at which certain enhanced 
        prudential standards shall apply, from $50 billion to $250 
        billion, while allowing the FRB discretion in determining 
        whether a financial institution with assets equal or greater 
        than $100 billion must be subject to such standards;

    increase the asset threshold at which company-run stress 
        tests are required, from $10 billion to $250 billion; and

    My assessment is that S. 2155 had nothing to do with the failures 
of SVB, Signature, or First Republic Bank. The S. 2155 tailoring 
requirements deal with the Dodd-Frank enhanced regulations for large 
bank holding companies. In SVB's case, the risks were obvious, and they 
were in SVB bank, not in the holding company.
    Federal banking regulators, including Federal Reserve bank 
supervisors, have ample powers under prompt corrective action 
legislation and related regulations to remedy any serious safety and 
soundness issues bank examiners identify in a regulated bank like SVB. 
Timely and proper exercise of the Fed's prompt corrective action powers 
could have been used to de-risk SVB bank. There would be no need to 
invoke bank holding company regulatory powers to arrest reckless SVBs 
growth funded almost exclusively by uninsured MMDA deposit balances. 
For reference, I provide the text of the relevant sections of the Fed's 
prompt corrective action authority in an appendix to this testimony.
    Federal Reserve examiners had the authority to limit SVB's growth, 
to require it to diversify its depositor base as a condition for 
growth, to better manage its interest rate risk exposure, to require 
SVB to increase its capital to offset unrecognized losses on its loans 
and held-to-security portfolios, and require SVB to preemptively pledge 
collateral at the San Francisco Federal Reserve Bank's discount window 
so that bank could quickly secure discount window funding in a crisis. 
Yet the bank supervisors from the Fed and the State of California did 
not take any of these actions or even suggest to SVB management that 
such actions were needed.
    SVB bank was essentially run like a money market mutual fund 
without the SEC regulations that restrict the duration of money market 
fund permitted investments. Moreover, unlike an SEC regulated money 
market fund, the interest earnings of SVB accrued to SVB management and 
shareholders instead of to its MMDA depositors.
    SVB funded itself by growing its large deposit MMDA accounts during 
a period when short term interest rates on these accounts were close to 
zero. It invested most of the proceeds in longer maturity securities 
and loans to earn a positive yield. Most of these securities had a 
Federal Government guarantee and hence low or zero regulatory risk 
weights. It should have been obvious to bank examiners that SVB's 
business model was unsustainable in a climate of rising short term 
interest rates. The bank would either have to raise the rate it paid on 
MMDA deposits to retain its funding or replace lost deposits with new 
higher rate funding sources. Either alternative would eventually erode 
the bank's net interest income (or result in net interest losses) and 
create unrecognized losses on its long-term loans and held-to-maturity 
securities.
    The Federal Reserve Board's Dodd-Frank Act holding company stress 
test would not have identified interest rate risk as a major issue 
because the Fed's scenario of the next banking apocalypse was steep 
recession with declining interest rates. None of the institutions that 
have failed thus far were part of complex holding companies and so 
little would have been to be gained from the Dodd-Frank holding company 
living will requirements. Given SVB's concentration of uninsured 
deposit funding and its asset holdings, the bank's liquidity and 
interest rate risk exposure were obvious for years based on the 
regulatory call report data banks report quarterly.
    As for former Vice Chair Quarles role in the SVB failure, according 
to the Federal Reserve Board, Michael Barr assumed the position of Vice 
Chairman of Supervision on July 19, 2022. Instead of launching a 
crusade to conquer real or imaginary climate-change risk in his 
``holistic'' capital review, taxpayers and U.S. financial stability 
would have been much better served had Mr. Barr focused examiner 
efforts on assessing basic banking risks, like interest rate and 
liquidity risk, especially give the Fed's need to aggressively increase 
short term interest rates. The SVB failure occurred while Vice Chair 
Barr's was fully in charge of Federal Reserve Board bank supervision.
    Virtually all of the supervisory recommendations in SVB ``matters 
acquiring (immediate) attention'' communications concerned processes 
associated with model-based large bank regulations or procedures to 
measure, set, and monitor internal risk limits. None of the supervisory 
communications actually spoke to SVB's actual liquidity risk associated 
with the bank's precarious funding mix, the financial ramifications of 
its interest rate risk profile, or the bank's true capital adequacy 
risks. As I have demonstrated, all of these very real financial risks 
were obvious from simply analyzing call report data.
    Instead of focusing on the bank's actual financial condition, 
examiners recommended corrective actions that focused on improving 
governance structures and compliance processes, not on curing the basic 
financial and concentration risks that endangered the safety and 
soundness of SVB bank. For example, the supervisory letter from 
November 2021 addressing SVB liquidity risk matters requiring attention 
specified the following:

        Required Action: By December 31, 2021, SVB is required to 
        enhance their project plan for liquidity risk management as 
        follows:

    1.  Update the project plan and the associated gap assessment to 
        address applicable supervisory expectations and requirements, 
        including those related to the findings cited in this 
        supervisory letter.

    2.  Ensure sufficient staffing and resources are allocated to 
        execute the plan to meet established timelines.

    The corrective actions recommended concerned SVBs internal 
liquidity risk stress testing models. Examiners argued that the bank 
needed to develop ``more granular deposit segmentation to produce 
effective modeling of deposit outflows during stress.''
    Separating deposits into finer behavioral buckets for modeling 
purposes as examiners recommended would have provided no useful 
information that would have helped SVB avoid its fatal bank run. It 
turns out, a huge proportion of large uninsured depositors attempted to 
withdraw their deposits simultaneously. These depositors acted 
identically. Examiners' recommendation to model depositors as multiple 
distinct ``granular groups'' with differing behavior in the bank's 
internal liquidity stress test modeling was misguided. Moreover, the 
veracity of SVB's internal liquidity stress had no bearing on its 
survival. Practically speaking, there would have been no point in SVB 
wasting resources to run a hypothetical internal liquidity stress test 
scenario that mimicked reality--where $140 billion of the bank's $160 
billion in deposit ran in a matter of days. You don't need a stress 
test model to know that the bank would fail.
    Examiner guidance would have been better focused on requiring the 
bank to perfect its capacity to access emergency liquidity should it be 
needed. The Fed's SVB review found that:

        SVB did not test its capacity to borrow at the discount window 
        in 2022 and did not have appropriate collateral and operational 
        arrangements in place to obtain liquidity. While stronger 
        operational capacity to obtain contingency funding in March 
        2023 would likely not have prevented SVB's failure, it could 
        have facilitated a more orderly resolution.

    Requiring a bank to identify adequate collateral, have it pre-
positioned, and have the operational processes in place to access Fed 
discount window lending in an emergency seems like a basic supervisory 
function. In particular, the quality of loan collateral pledged must be 
assessed before the Fed can provide discount window funding. This 
process takes time. While one might presume that bank supervisors 
determine that a bank has the necessary arrangements in place in order 
to receive a ``fundamentally sound'' CAMELS liquidity rating, but 
apparently this is not the case. Examiners' holding company supervisory 
letter did mention ``the lack of testing of the firm's contingency 
funding plan,'' but did not specify the concrete steps needed to remedy 
this shortcoming. The examiners seemingly were much more concerned with 
perceived liquidity risk modeling inadequacies than in ensuring that a 
bank had timely seamless access to lender of last resort funding should 
it be needed.
Was Anyone in Washington Paying Attention?
    Federal Reserve Board Vice-Chair of Supervision Randal Quarrels 
left the Federal Reserve Board on December 25, 2021--long before the 
results of the FRBO's 2021 examination of SVB and its holding company 
were finalized. Taking office July 19, 2022, \6\ Vice Chairman Barr 
would have been on the job for the month during which SVB's 2021 LFBO 
holding company examination rating letter was being finalized. Given 
that SVB was a very large Fed member bank for which the Board of 
Governors (BOG) had assumed supervisory responsibility, it would be 
surprising if Vice Chair Barr did not review or receive a briefing on 
LFBO's SVB examination conclusions before the supervisory letter 
detailing LFBO's finding were communicated to the bank on August 19, 
2022.
---------------------------------------------------------------------------
     \6\ While the Fed states Vice-Chair Barr's official start date as 
July 19, 2022, the Federal Reserve Board also reports that Mr. Barr 
voted as Vice-Chair of Supervision to approve: (1) the application of 
Bank First Corporation on June 18, 2022; (2) the application of 
benchmark Community Bank on June 30, 2022; (3) and, a Board motion to 
solicit public comment on a rule related to LIBOR on July 15, 2022. 
Curiously, he did not vote on a Board motion to extend the public 
comment period on a rule related to G-SIB resolution plans on June 30, 
2022.
---------------------------------------------------------------------------
    For the much of the time between Vice-Chair Quarrels departure 
until the time Mr. Barr assumed his duties, the BOG had an acting 
Chairman, \7\ and only three governors: Governor Brainard, \8\ Governor 
Bowman, and Governor Waller. In prior years, Governor Tarullo fulfilled 
the function of Federal Reserve Board Vice Chair of Supervision but was 
never officially nominated and confirmed to that position. After Vice 
Chair Quarrels departure, it is unclear from publically available 
information which if any Federal Reserve Board Governor acted in a 
temporary capacity fulfilling the duties of Vice Chair of Supervision.
---------------------------------------------------------------------------
     \7\ The Federal Reserve Board voted to make Jerome Powell Chair 
Pro Tempore on February 11, 2022. He was sworn in as Chairman on May 
23, 2022.
     \8\ Governor Brainard became Vice Chair on May 23, 2022. Governor 
Jefferson was also sworn in on May 23, 2022.
---------------------------------------------------------------------------
    The failure of the Federal Reserve's examination team to appreciate 
the impact of rising short term interest rates on the market value of 
SVB's held-to-maturity securities is shocking given that the bank 
reports this data in its quarterly regulatory call reports. Moreover, 
the Federal Reserve System was itself experiencing huge unrealized 
market value losses on the held-to-maturity securities in its system 
open market account. The Federal Reserve System's 2022 audited 
financial statements show that, by December 31, 2022, the Fed's $8.6 
trillion in Treasury, agency debt, and agency mortgage backed 
securities had unrealized mark value losses of more than $1 trillion.
    The Fed's official position is that these market value losses will 
never be realized as cash losses because the Fed will hold the 
securities until maturity. Federal Reserve member banks may voice a 
similar justification for valuing their held-to-maturity securities at 
amortized cost instead of current market value. However, market value 
losses on held-to-maturity positions inevitably turn into cash 
operating losses in a leveraged institution like the Federal Reserve or 
a Federal Reserve member bank. Unrealized market value losses are an 
indication that the cost of financing the securities to maturity is 
expected to exceed the interest earnings the security will generate for 
the institution. A colleague and I explain this phenomenon in a recent 
Wall Street Journal op ed.
    Indeed, because its funding costs exceeded the Fed's securities 
portfolio yield, the Fed began reporting system operating losses in 
mid-September 2022. The Fed's monthly operating losses are continuing 
and have only grown larger as the Fed has increased short term interest 
rates to fight inflation. Between September 2022 and May 11, 2023, the 
Fed's H.4.1 statement shows the system has incurred $57 billion in 
actual cash operating losses and these losses will continue to 
accumulate as long as short term interest rates exceed the yield on 
securities the Fed owns. Banks face similar issues on their held-to-
maturity securities portfolios and long maturity loans only, unlike the 
Fed, their continued existence is imperiled when unrealized mark-to-
market losses erode their equity capital.
    The Board of Governors of the Federal Reserve's November 2022 
Financial Stability Report failed to highlight any of the issues that 
caused SVB, Signature Bank and First Republic Bank to fail. In its 
discussion of bank capital adequacy, the report concluded:

        Leverage at banks and broker-dealers remained relatively 
        low.higher levels of loss-absorbing capacity in the banking 
        sector and among broker-dealers that have prevailed since the 
        structural reforms introduced following the 2007-09 financial 
        crisis signal resilience in those institutions.

    In its assessment of liquidity risk in the banking sector, it 
stated:

        Funding risks at domestic banks are low, but structural 
        vulnerabilities persist in other sectors that engage in 
        liquidity transformation. large banks that are subject to the 
        liquidity coverage ratio (LCR) continued to maintain levels of 
        high-quality liquid assets (HQLA) that suggest that their 
        liquid resources would be sufficient to meet redemptions during 
        periods of stress, and their reliance on short-term wholesale 
        funding remains low.

    According to the BOG stability report, the banking system was 
liquid and well capitalized. However, it concluded that the financial 
sector as a whole faced systemic risks created by nonbank financial 
institutions that, coincidently, are not regulated by the BOG. For 
example, on nonbank financial institution capital adequacy (called 
leverage in the BOG report), the report finds,

        [C]omprehensive measures of hedge fund leverage remained 
        somewhat above their historical averages. leverage at many 
        types of NBFIs [nonbank financial institutions] can be 
        difficult to measure or monitor in a timely way with available 
        data. These gaps raise the risk that such firms are using 
        leveraged positions, which could amplify adverse shocks, 
        especially if they are financed with short-term funding.

    When it comes to the liquidity risk posed by SEC regulated nonbank 
financial institutions, the BOG financial stability report finds:

        Prime and tax-exempt MMFs as well as other cash-investment 
        vehicles remain vulnerable to runs, and some of these vehicles 
        maintain stable net asset values (NAVs) that make them 
        particularly susceptible to sharp increases in interest rates. 
        Some open-end bond mutual funds continued to be susceptible to 
        large redemptions because they hold assets that can become 
        illiquid amid stress while promising shareholders the right to 
        redeem their shares every day.

    To be fair, the BOG report did conclude that, ``[u]nexpectedly and 
persistently high inflation and higher interest rates could pose risks 
to the economy and the financial system.'' However, the alleged risk 
was not that banks would fail, but that persistent inflation and high 
interest rates would diminish the `` . . . debt service capacity of 
households and businesses . . . [leading to] an increase in 
delinquencies, bankruptcies, and other forms of financial distress. 
Household purchasing power would be eroded by higher prices, and a 
steep rise in rates would also increase businesses' borrowing costs.''
    Instead of recognizing the stability risk that rising interest 
rates created in the banking sector, the BOG's financial stability 
report featured a full page ``box'' on the Fed's efforts to measure 
``climate-change risk'' in the banking sector. The box states:

        The unprecedented nature of climate change means that 
        anticipating its potential effects on the safety and soundness 
        of financial institutions and on financial stability requires 
        forward-looking analyses. One such approach is climate scenario 
        analysis. A climate scenario posits a potential future path of 
        important climate-related factors, allowing analysts to explore 
        the resulting effects on the economy and financial system.

    To summarize, in November 2022, the BOG issued a report that 
assured the American public that the banking system was financially 
sound, liquid and well-capitalized. However, the financial system still 
faced important risks from ``climate change'' and nonbank financial 
institution activities that were outside the BOG's regulatory reach.
    Thus far, the BOG's November 2022 financial stability assessment 
included very little that has proven to be prescient--the banking 
system faced a depositor run caused the failure of several large banks. 
These runs required the Fed, FDIC and U.S. Treasury to invoke a 
``systemic risk exception'' so that emergency measures could be taken 
to stabilize the banking system. Fed officials are now discussing a new 
source of systemic risk-the risk that these bank failures will 
constrict the availability of bank credit and cause a recession. To 
date, no report I have seen attributes recent bank depositor runs to 
the risks of ``climate change''. Meanwhile SEC-regulated money market 
mutual funds are, thus far at least, providing household savers with a 
return on their liquid balances without the drama playing out in the 
banking system.
    Before March 9, 2023, addressing real or imaginary climate-change 
banking risks was a BOG priority. Shortly after the Biden 
administration took office, its FSOC declared that climate change 
represents a systemic risk to financial sector. Such a designation 
requires FSOC members to formulate appropriate regulations to mitigate 
this newly identified risk. Vice Chair Barr's holistic review of 
regulatory capital requirements was in part designed to incorporate new 
climate-change stress test capital requirements into the Dodd-Frank 
enhanced regulatory requirements that apply to large bank holding 
companies. Repealing provisions of S. 2155 would allow the BOG to apply 
these new climate-change stress test requirements to smaller regional 
bank holding companies in addition to G-SIBs.
    The FSOC more recently decided that nonbank financial 
institutions--a.k.a. ``shadow banks''--are potentially an important 
source of financial sector systemic risk. In its recent March 2023 
meeting, the FSOC reportedly agreed to revisit the procedures they use 
to designate as ``systemically important'' large nonbank financial 
institutions and thereby subject them to BOG supervision and Dodd-Frank 
enhanced regulations. You may recall the FSOC's existing procedures for 
designating nonbank financial firms as systemically important were 
discredited when Metlife won its court case arguing that the FSOC's 
designation process was arbitrary and capricious.
    To keep the FSOC's newest ``climate-change'' and ``shadow bank'' 
systemic risk declarations in perspective, consider that the FSOC has 
never to my knowledge issued any forewarnings identifying interest rate 
risk and contagious banks runs as systemic risks in the banking sector 
worthy of elevated attention.
The Role of the FDIC in SVB's Failure
    The FDIC does not escape blame for the SVB failure. The FDIC is 
proud of ``supervisory back up authority,'' a power it has to 
participate in any bank examination, regardless of a bank's primary 
Federal regulator, and in special circumstances, to conduct an 
independent exam should the FDIC deem a bank or bank holding company to 
be material risk to the Deposit Insurance Fund.
    SVB is an example of a situation for which the FDIC's back-up 
authority was designed. I see no evidence that the FDIC pushed back on 
the Fed's lack of zeal in enforcing prompt corrective actions even 
though the FDIC's early warning models must have identified SVB as a 
failure risk.
    The FDIC is also responsible for setting bank deposit insurance 
premiums. Bank deposit insurance premiums, by law, are supposed to be 
risk-based. The FDIC large bank insurance pricing model probably does 
not charge sufficiently elevated deposit insurance premiums for banks 
like SVB with large unrecognized loss on their loans and held to 
maturity securities or for high concentrations of deposit over the FDIC 
insurance limit unless these risks reflected in in a bank's component 
CAMELS ratings or the bank has other special features that trigger 
premium adjustments factors.
    The FDIC's large bank insurance premium assessment model bases 
premiums on a weighted average of component CAMELS ratings. It has 
adjustments for unstable bank funding, but the adjustment raises 
premiums when a bank uses a lot of broker deposit funding and has time 
deposits over the deposit insurance limit. Brokered deposits were not 
an issue for SVB and SVB's and the FDIC does not consider MMDA accounts 
to be time deposits.
    Large bank deposit insurance premiums are also impacted by a bank's 
liquidity ratio and the potential losses to the DIF should the bank 
fail. SVB owned lots of HQLA securities and most of SVB's deposit were 
uninsured so the DIF would have suffered no losses in a normal SVB FDIC 
resolution. Neither of these factors would have resulted in an elevated 
deposit insurance premium for SVB bank according to the FDIC's large 
bank assessment rule. While SVB's deposit insurance assessments are not 
public information, it appears likely that SVB was not being 
appropriately charged for the true risk it posed to the deposit 
insurance fund. Because of the systemic risk exception, SVB is the most 
expense bank failure in FDIC history.
The Systemic Risk Exception
    Because the simultaneous failures of SVB and Signature Bank sparked 
runs at other regional banks, many of which also had large unrecognized 
mark-to-market losses on their held to maturity securities, the Federal 
Reserve Board, the FDIC board, and Secretary Yellen all agreed to 
invoke a systemic risk exception for these two banks and apply an FDIC 
blanket guarantee on all deposits in these banks regardless of size. In 
addition, Secretary Yellen inferred that they would apply the blanket 
deposit guarantee to other banks if authorities deemed it necessary.
    The source of systemic risk that mandated the need for a systemic 
risk exception and a blanket deposit insurance guarantee was the 
simultaneous loss of depositor confidence in a significant number of 
large banks. The SVB and Signature Bank failures catalyzed depositor 
concerns in early March. However, it was lax Federal supervision that, 
as the Fed raised interest rates throughout 2022, allowed interest rate 
risk and market value capitalization shortfalls to endanger the safety 
and soundness of multiple large banks. To its credit, the FDIC's 
quarterly banking profile did mention unrecognized losses on held-to-
maturity bank securities as a stability risk to the banking system. If 
the FSOC and BOG took an honest measure of financial system stability 
in the Fall of 2022, they would have designated Federal bank 
supervision as a source of systemic risk.
    Under normal FDIC rules, because of the magnitude of their 
uninsured deposit balances, SVB and Signature Bank could have been 
resolved without any losses to the FDIC deposit insurance fund. Zero 
losses.
    The blanket deposit guarantee raised the SVB resolution cost to at 
least $20 billion and cost of the Signature Bank Rescue to something 
like $2.5 billion. The three failed bank FDIC receiverships (including 
First Republic Bank) are borrowing well over a hundred billion dollars 
from the Federal Reserve--which is highly unusual to say the least. I 
am guessing it is because the debt ceiling precludes the FDIC from 
borrowing the U.S. Treasury as it usually does--but no one in Congress 
has grilled the regulators yet on this anomaly as far as I know.
    Post Dodd-Frank Act, a systemic risk exception was supposed to 
trigger the use of the FDIC's new orderly liquidation authority, where 
the FDIC would take over the SVB holding company, cancel its equity and 
bonds, and liquidate its assets to keep SVB bank open and operating. 
\9\ For some unspoken reason, the Government did not use OLA. As far as 
I can tell, OLA was never even considered as a way to manage SVB's 
failure. The FDIC should have been required to assess the cost to the 
deposit insurance fund of using OLA as compared to SVB liquidation.
---------------------------------------------------------------------------
     \9\ Signature Bank did not have a holding company, so OLA would 
not have been an option in that case.
---------------------------------------------------------------------------
Other Issues
    The BOG's vice-chairman of supervision, Michael Barr spearhead the 
Fed's review of the SVB bank failure. In contrast to most Federal 
agencies, the Fed does not have a Senate-confirmed independent 
Inspector General to examine its mistakes. The Fed has its own Board-
appointed IG office and the GAO has some investigative powers, but 
these arrangements fall short of the investigative powers of a true 
independent IG. Moreover, Federal Reserve district banks are 
technically owned by their member commercial banks. They are not 
considered to be Federal agencies as defined by the 1967 Freedom of 
Information Act (FOIA) and therefore are not subject to the provisions 
of FOIA.

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


            PREPARED STATEMENT OF MAYRA RODRIGUEZ VALLADARES
                   Managing Principal, MRV Associates
                              May 17, 2023

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


        RESPONSES TO WRITTEN QUESTIONS OF SENATOR ROUNDS
                        FROM MARK BIALEK

Q.1. Mr. Bialek, on October 4, 2021, the Board of Governors of 
the Federal Reserve System requested that the Federal Reserve 
Office of the Inspector General ``conduct an independent review 
of whether the 2020 trading activities of Rob Kaplan, President 
of the Dallas Federal Reserve Bank; Eric Rosengren, President 
of the Boston Federal Reserve Bank; and Rich Clarida, Vice 
Chair of the Board of Governors of the Federal Reserve System 
violated the law or Federal Reserve policies, whether the 
trading activities warrant further investigation by other 
authorities, and any other related matters that you deem 
appropriate.''
    On July 11, 2022, your office released the findings of the 
investigation into former board member Rich Clarida. When do 
you expect to release the findings of your investigations into 
Rob Kaplan, President of the Dallas Federal Reserve Bank, and 
Eric Rosengren, President of the Boston Federal Reserve Bank?

A.1. Our investigations of senior Federal Reserve Bank 
officials are ongoing. I can assure you that we are working as 
efficiently as possible and are committed to conducting a 
thorough and comprehensive review of these serious allegations. 
These investigations are complex because of the nature and 
volume of information we are reviewing. Once our investigations 
are completed, we will disclose our findings to the extent 
allowable under the law.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR KENNEDY
                     FROM PETER CONTI-BROWN

Q.1. Unlike traditional deposit insurance which leverages a 
risk-based assessment unique to each bank, the FDIC's proposed 
special assessment rulemaking leverages uninsured deposits as 
the mechanism to assess banks.
    To what extent is there variation in the overall stability 
of uninsured deposits?

A.1. Thank you for this question, Senator Kennedy. I think it's 
a great topic to explore and suspect that some sources of 
uninsured deposits are more stable than others, but I do not 
have the relevant expertise to answer with any confidence.

Q.2. To what extent would this framework differentiate across 
uninsured deposits that may have different characteristics?

A.2. I remain very curious about this set of questions but have 
not studied it to have an informed opinion.

Q.3. Recent bank failures were prompted by poor interest rate 
risk and asset liability management, to put it simply, failing 
at basic banking 101. These banks did not appropriately 
recognize or manage the interest rate risk associated with a 
high proportion of unstable deposits and longer duration 
assets. This was widely recognized in recent post-mortem 
reports across the agencies.
    Dodd-Frank included a number of important provisions 
designed to ensure that the methodology used to assess deposit 
insurance is appropriately tied to risk.
    Why do you believe the special assessment veers away from 
the risk-based methodologies that the FDIC traditionally 
leverages?

A.3. My tentative sense is that the FDIC does not price its 
insurance with sufficient individualized attention to bank risk 
taking. Instead, it uses basic proxies for its assessments that 
do not reflect that variation in risk taking. I would like to 
see the FDIC impose those costs directly to wealthy depositors 
who take advantage of nonpriced implicit guarantees so that 
they can be more mindful of them.

Q.4. How does this impact stable, cash intensive activities?

A.4. For businesses that use a transaction account to, for 
example, make payroll, there remains a major concern about the 
costs associated with maintaining these kinds of accounts. For 
this reason, I would favor extending deposit insurance 
protections to small businesses to one order of magnitude 
higher than the level available to retail depositors. For 
example, under the current regimen that would mean insurance 
for small businesses of $2.5 million, more than enough to cover 
the needs of most small businesses.

Q.5. How did the FDIC evaluate special assessments following 
the financial crisis? Was it a risk-based assessment?

A.5. Loosely, yes. There is some sensitivity to individual bank 
risk and to bank depositors. I think the risk assessments 
undertaken in pricing deposit insurance do not reflect the 
risks these banks have taken.
                                ------                                


       RESPONSES TO WRITTEN QUESTIONS OF SENATOR KENNEDY
                      FROM PAUL H. KUPIEC

Q.1. Impact of Bank Regulations on Main Street Business/
Economy. Banks of all sizes play an important role in helping 
businesses of all sizes meet their financial objectives. They 
support businesses in managing their cash week to week for 
making payroll and paying their suppliers. They support 
businesses by providing advice on how to make investment 
decisions when they are considering opening a new store or 
factory, or acquiring new equipment. When businesses need more 
cash, banks provide them short term loans on lines of credit, 
or long term loans to help them fund their growth. For some 
larger businesses, banks can help with hedging market risk 
through products like interest rate swaps--especially helpful 
nowadays given the challenging interest rate policy from the 
Federal Reserve in recent months.
    So here's my concern. There is a lot of talk about imposing 
new regulations on banks. I'm not ruling out new regulation, 
but we need a more serious conversation about what the tradeoff 
would be for main street businesses and banks' other customers.
    Would more regulation imposed on banks, including increased 
capital requirements, make it more expensive for them to lend 
and offer other services to businesses?

A.1. Complying with bank regulations is expensive. Banks have 
to hire external consultants, compliance staff, or divert 
existing bank staff's attention from other activities to ensure 
that a bank complies with Federal bank regulations. The extra 
expense incurred is passed on to depositors in the form of 
reduced interest, to borrowers in the form of higher interest 
rates on loans, and to the bank owners in the form of reduced 
dividends and retained earnings.
    According to an S&P Global Market survey, of the banks 
responding to their survey,

        49 percent said compliance costs were up 20 percent or 
        more since Dodd-Frank was implemented, and another 22 
        percent said these costs were up between 10 percent and 
        20 percent.

        40 percent of respondents said compliance costs now 
        account for 10 percent to 20 percent of their annual 
        expenses. Another 14 percent pegged the share at 20 
        percent to 30 percent, and 5 percent estimated the 
        figure topped 30 percent.

    A case study by CFPF involving 7 banks sought to understand 
how a specific set of ongoing regulations impacted the 
compliance costs of the & [sic] participating banks. The study 
estimates the percentage increase in costs associated with on-
going consultant and staff resources devoted to complying with 
on-going consumer protection-related regulations. It does not 
estimate the start-up compliance costs associated with a newly 
imposed regulation. The compliance cost estimates in the study 
refer to a specific set of consumer protection regulations 
associated with banks' deposit taking activities like truth in 
savings, electronic funds transfer, fair credit reporting and 
consumer privacy regulations. The study did not consider 
compliance costs associated with minimum regulatory capital or 
liquidity requirements.
    As mentioned, regulatory costs are necessarily passed on to 
depositors, borrowers and bank owners. I am not aware of any 
academic study that estimate the respective shares of the costs 
borne by these three separate constituencies.

Q.2. Role of Basel Committee on Bank Supervision. The Basel 
Committee on Banking Supervision, in their words, ``is the 
primary global standard setter for the prudential regulation of 
banks and provides a forum for regular cooperation on banking 
supervisory matters. Its 45 members comprise central banks and 
bank supervisors from 28 jurisdictions.''
    Most of my constituents could not tell you what country 
Basel is in, and even fewer are interested in the work of the 
Basel Committee on Bank Supervision. It is not to say the work 
of BCBS is without merit, but my constituents deserve a say in 
how these standards could impact them if U.S. banking 
regulators intend to adopt them.
    Is the U.S. required to adopt banking standards developed 
by the Basel Committee?

A.2. BCBS member country compliance with Basel bank regulatory 
standard is voluntary. Given the leadership position of U.S. 
bank regulators in crafting the Basel regulatory standards that 
ultimately are adopted by the BCBS, it would be highly 
embarrassing if the U.S. did not adopt the regulatory standards 
set by the BCBS. Many member countries ``adopt'' BCBS standards 
but tailor the standards to account for national differences of 
to make the standards acceptable politically in their member 
country. In many countries, capital regulations must be imposed 
through specific legislation unlike in the U.S. where 
regulators have rulemaking powers.

Q.3. Could the U.S. be put at a global disadvantage if we adopt 
these standards but other large markets--such as European 
Union--do not adopt the standards?

A.3. The U.S. often adopts BCBS standards and applies them in 
the most restrictive form--so called ``gold plating'' the Basel 
regulatory capital rules. Other country legislations or 
regulatory chose to ``water down'' the BCBS standards when they 
implement them in their country. The rigor or ease of bank 
regulatory capital rules based on stress testing are completely 
controlled by the severity of the imaginary stress test and 
regulatory authority's loss estimates. Compliance with these 
regulations is a subjective exercise as stress loss estimates 
cannot be objectively verified.

Q.4. Would you support legislation that gives Congress more of 
a say for how U.S. regulators engage with the Basel Committee?

A.4. Yes. The U.S. Congress must assert its authority over BCBS 
regulatory agreements before these agreements are finalized in 
Basel. Once they are finalized, the damage has been done.
              Additional Material Supplied for the Record
STATEMENT SUBMITTED BY DENNIS M. KELLEHER, PRESIDENT AND CEO OF BETTER 
                             MARKETS, INC. 

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]`