John Donvan:

Hi, everybody, this is “Open to Debate.” Welcome, I am John Donvan. And, as life is always moving, and things are always changing, situations, et cetera, there are times when to us at “Open to Debate,” it makes to debate, again, a question that we have looked at in the past. So in 2018, when we were at that point 10 years out from the 2008 financial crisis, we held a debate asking whether the banking system had become safer over those 10 years. It, it was a good debate, some good argument, so I recommend you check it out.

But now we’re in this moment again when huge headlines are being written about the failure of some significant banks seemingly out of nowhere, Silicon Valley, Credit Suisse, and with a lot of alarms being sounded, like by the head of J.P. Morgan warning that, “The crisis is not over yet,” and he says, “It’s gonna be felt for years to come.”

So we thought, let’s ask this question again. Weren’t there guardrails put in place after 2008 that were supposed to keep things systemically safe? Are they working, are they not? Is it the case after all, as we are asking in this debate, re-asking. The banking system, is it safer than it was in 2008? We’re having this one argued by two veteran debaters, by which I mean they’ve been our guests many times before, we like them a lot because they are players in the world we’re going to be talking about, and they’re both excellent debaters. So, let’s meet them.

Arguing that, “Yes, the banking system is safer than in 2008,” former Chairman for the Council of Economic Advisers, Jason Furman. Jason, thanks so much for joining us on “Open to Debate.”

Jason Furman:

Great to be here.

John Donvan:

And arguing, “No,” that “the banking system is not safer than in 2008,” editor-at-large for the Financial Times US, Gillian Tett. Welcome Gillian, welcome back.

Gillian Tett:

Great to be here, and particularly great to be here with Jason.

John Donvan:

So let’s get to it, we want to give each of you a chance, a few minutes to use that time to explain your position, why you’re arguing “Yes” and why you’re arguing “No” in answer to the question. So Gillian, you’re up first with the “No.” You’re answering “No, the banking system is not safer than it was in 2008.” Please tell us why.

Gillian Tett:

Well, thank you very much indeed, and it is indeed fantastic to be back here. And fantastic to be back here at a moment like this, when we’ve just had the March Madness, a period of bank runs, drama, and scares. And this has illustrated really two or three key points. The first point is, as you’re gonna hear from Jason in a moment, in some respects, the banks are indeed safer than since 2008, because after the 2008 crisis, what we saw was governments rushing in to increase the capital base of the banks, to force them to get slightly better at managing their liquidity.

And you saw the government itself introduce a series of measures which made sure that it could respond to faster to a banking crisis, such as having the Federal Reserve discount window more flexible, more effective, such as having, say, the FDIC expand the amount of insurance it gives the depositors. So that is the good news.

Here is the really bad news. What happened with Silicon Valley Bank and the others was a symptom, not a cause, of a bigger problem in finance. Let me say that again. It was a symptom, not a cause, of a bigger problem in finance. And the bigger problem in finance is that for the last 15 years, we’ve had quantitative easing, which has unleashed an extraordinary amount of cheap money into the financial system, and caused extraordinary dislocations all over the place.

The reason why Silicon Valley blew up was because as a result of getting used to cheap money, it had gone out and bought a lot of Treasury bonds, long-term Treasury bonds, which it very, very stupidly had not hedged against the chance of interest rates going up. You could look at that and say that was unbelievably dumb, it was under-believably dumb, and in some ways it was idiosyncratic, because most banks haven’t been quite so dumb.

However, there are many, many other financial institutions which have also developed strategies in recent years to cope with a super-low interest rate world. Maybe they haven’t done so in such a visibly stupid way. In many cases, the costs of those strategies have not become clear, because they’re private, rather than public, and by their minutes in private equity, it’s in other institutions like that, it’s particularly in private capital, which isn’t in the traditional core banking world, that many of the really dumb bets have been made.

But the key problem is this. As interest rates invariably stay high, it may come down a bit, but they’re gonna be higher than they have been for the last 15 years, we are gonna see more and more chain reactions, in my view, as people begin to realize that actually these bets have been dumb. And just to make it worse, after 2008, there were many reforms which increased the ability of the government to act, but some of the reforms that were introduced actually stopped the Federal Reserve from doing sensible, crisis-beating measures, that it used to quell the 2008 crisis.

So, the bottom line is this. Yes, maybe parts of the banking system are safer than they were in 2008, but no, I think the financial system as a whole has not been healed, because of these massive dislocations, because of easy money. And what really worries me is that back in 2008, when policymakers were rushing to try and deal with the crises, they weren’t dealing with sky-high levels of debt at quite the same levels as today, they weren’t dealing with rising inflation, they weren’t dealing with geopolitical tensions, they weren’t dealing with a population that was already very fed up with all these crises.

They are now, and their room for maneuver where the next one explodes, is gonna be a lot smaller.

John Donvan:

Thank you, Gillian Tett. So that’s the argument for answering the question, “No,” to say that “the banking system is not safer than in 2008.” Now let’s hear from Jason Furman, Jason, you are arguing the opposite position, “Yes, the system is safer than 2008.” Please tell us why.

Jason Furman:

Great. Um, and it’s just terrific to be here and terrific to be as part of this relaunch, c- uh, couldn’t be happier, uh, than doing this discussion with Gillian Tett. Just like she began by acknowledging some of the points she thought I would make, I’m gonna begin by acknowledging some of her points. Is the financial system completely safe? Of course not. Is the s- financial system as safe as it should be? Of course not, we just had the second biggest bank failure in American history.

But we should have some perspective on this. In the last three years we have been through two enormous events. The COVID shock was the largest and sharpest decline in economic activity that we’ve ever had, and the banks were completely fine. Over the last year, we have had the fastest increase of interest rates in the last 40 years, the biggest increase in inflation in the last 40 years.

And the main bank that has collapsed as a result was one that I think Gillian said something like “somewhat idiosyncratic,” I would say “extremely idiosyncratic,” off the charts in terms of the fraction of its funding that was from uninsured depositors, the degree to which those uninsured depositors all came from the same ecosystem, and the degree to which on the asset side of its balance sheet it was doing, um, just one thing with it.

And so I think it’s a real testament to the reforms that we put in place in the wake of the financial crisis, as well as the behavioral change on the part of financial institutions, that we’ve gotten through these two massive shocks, with something that might be less than what I might have even thought, um, a year ago.

A year ago, it was very common to say, “When the Fed raises rates this rapidly, something will break in the financial system.” There weren’t a lot of people saying, “Don’t worry, nothing will break in the financial system.” It wasn’t necessarily that they predicted it would be the banks in general, or this particular bank. But every time you have this type of change in monetary policy, something breaks along the way.

The Fed in advance said, “If this happens, we’re going to use our tools to try to clean up the mess, while we keep driving towards our objection of bringing down inflation,” and that’s precisely what they did. They deployed some of their tools in terms of lending facilities, in terms of declaring Silicon Valley Bank systemic and guaranteeing its deposits. And they have effectively stopped what seems to be, um, a bank run.

I’ll conclude this opening by acknowledging, again, that there are, continue to be problems with the model of banking. High interest rates, as Gillian said, are a negative for the assets side of bank balance sheets, the value of bonds, for example, goes down when interest rates go up. It is a positive for the other side of their balance sheet. They tend not to have to pay depositors quite as much as they themselves can get from new interest.

Historically when interest rates went up it didn’t actually hurt banks, it was roughly neutral for them. I think now we’re in a somewhat new world, but not a 100% radically new world. And so on balance, those high interest rates are more of a challenge than they are a benefit, but the degree to which, um, those two sides of the ledger and how they balance out, um, is a little bit of an open question.

Um, we’re gonna have to see bank business models evolving in the digital world that we’re in. We’re going to see some consolidation, and we may see some more problems along the way. But I for one am very glad that we put in place the rules that were put in place at the wake of the financial crisis, and think in part because of those, we are not confronting anything like, um, the financial crisis we went through 15 years ago, despite the two huge dislocations the economy has gone through.

John Donvan:

Thanks very much, Jason. Um, Gillian, you’re acknowledging that in some regards, the system is safer than it was in 2008, but you’re saying, “Not in a sufficient number.” And, uh, um, Jason, you are making the argument that, “Yes indeed,” uh, “it could be safer and things need to be, reforms.” But to bring it back to you, Gillian, who, who, who, you, you are sounding more pessimistic by far than Jason, if the question were put to you this way, do you see the risk being there for a crisis as broad and deep and profound as in 2008, being repeated now, for the reasons that you suggested?

In other words, could you see, d- do you see a house of cards stacked not the same way, but as dangerously as in 2008, and is that the position that you’re arguing?

Gillian Tett:

Um, well what I’m arguing in some ways, is that we ought to broaden the length a little bit, and get beyond just the banks. Because you’re just talking about the big banks. Um, you know, I think a lot of what Jason has said is correct. What concerns me though is that we’re also talking about the non-banks and about private capital, partly because as a result of the reforms that people like Jason put in after 2008, a lot of the risk-taking activity was taken out of the core regulated banking sector, and pushed into the private capital markets and other aspects of the capital markets.

The problem, though, is really two-fold. Firstly, that a lot of the risk-taking activity now is in the non-banking sector, the private capital markets, which we can’t see because guess what, they’re private. And secondly, there is no safety net in place for those private capital markets. Um, because guess what, they’re private, and they’re not well-guarded as utility, and they’re to a large extent outside the Federal Reserve’s purview.

Now, you might say, “Who cares? Doesn’t matter, they’re private. Let those silly hedge funds just blow themselves up every so often, it doesn’t really affect the bigger system.” Newsflash, these days, finance is not only so globalized that shocks can ricochet around the world, it’s also so integrated in unexpected ways with the core banking system, that in practice it’s really hard to ignore a blow-up in the private capital markets.

In just the way, the same way, by the way, that with SVB, Silicon Valley Bank, until recently people used to say, “Well, who cares about small banks if they go bust? The reason we only regulate the big banks is because the small ones are ticklers.” But in today’s world, things are so interconnected, that if you get a shock in one part of the system, it ricochets. And there’s at least two things that could potentially cause a very nasty shock, to ricochet around the entire system, which people have not prepared for, which we need to think about.

One, something really nasty happening to the treasuries market, Treasury bonds market. Not impossible to imagine, given we’re coping with the debt ceiling crisis potentially coming down the tracks. And if something broke there, that could have really nasty systemic implications.

The second thing I’m concerned about, apart from, you know, acts of God, or, you know, shocks like cyber hacks and things like that, is something very unexpected happening in China. Again, that is interconnected to the, to the global financial system, and if something suddenly broke in China, that could create a very nasty shock in the same way.

John Donvan:

So if we broaden out the purview of what we’re talking about to go beyond, strictly speaking, the conventional banking system, to include the financial system more broadly, and those interrelationships you’re talking about, to return to my question, you are saying that you could see the potential for a, uh, financial crisis on the, on a similar or worse scale, to 2008, that that’s still potentially in the offing.

Gillian Tett:

Absolutely. And I think-

John Donvan:

Okay.

Gillian Tett:

… you know, if something called sov- sovereign bonds, Treasury bonds, be reevaluated, the system since 2008’s been built-in as a function, that government bonds are super safe. And yet, government debt has gone up, and up, and up, and up, and up, dramatically increased since 2008, go figure.

John Donvan:

Okay, I’d like to let Jason respond to some of what you just said.

Jason Furman:

Yeah, first of all, let me concede that last point. If-

Gillian Tett:

(laughs).

Jason Furman:

… Congress is insane enough to default on the US debt for the first time in history, we will have an epic financial crisis. Um, I hope that doesn’t happen, I don’t think that’ll happen. Um, but if it does happen, and, and I agree, it is more than a 0% probability, which means the probability of it happening is way too high, um, it would be terrible. Um, but let’s just take that rather extreme, um, event, off the table.

Um, I also agree that, um, there is more risk outside, um, the banking system, that that is harder to detect and regulate. Now, it doesn’t all go one way. 15 years ago, the problem we were worried about was, um, what are called “money market funds,” which are supposed to be incredibly safe. You put a dollar in, you get exactly a dollar out, plus interest. All of a sudden there was a run on them, and they started to be worth less than a dollar. And it looked like it might, um, you know, that whole system might collapse.

Um, now of course we’re seeing the exact opposite, people are putting their money into money market funds, and those money market funds today are much safer, and do, um, deserve the trust that people put into them. So there are things outside the banks that have moved in both directions.

Um, the other thing I’d say is there have already been many, many trillions of dollars of losses in both equities and in bonds. In fact, it was the worst, not that your hedge funds aren’t typically a 60/40 portfolio, but I think last year was something like the worst year for a 60/40 portfolio in, in a long time, or maybe forever. And a lot of these institutions have essentially, um, withstood that shock.

I don’t think the shock is over. Um, central banks around the world may continue, um, to need to raise interest rates to tackle inflation, there may be more shoes that drop. But they’ve been through a lot already, and the fact that they’re still standing, I think says something, again, about the resilience of the system.

John Donvan:

Yeah, so- so you have a different in perspectives on, on, on what it means that the thing has not fallen apart already. Um, Gillian, Jason’s saying the fact that, that it, that the, that the bulwarks have held suggests that the system is going to be resilient enough, that the- we have, we have the evidence there, that, that a 2008 repeat is extremely unlikely because of what we’ve just been through. I’d like you to take on that point.

Gillian Tett:

Well, I’d like to say a couple of things. First of all, you know, turkeys don’t vote for Christmas, and you’re not going to get somebody who helped to create the 2008 reforms say, “Ah, uh, we think it wasn’t a good idea and it didn’t work.” You know, that’s natural incentives. Um, you know, I think the reality is the 2008 reforms did some really good things.

They missed a lot, and they also had some unintended consequences, um, one of which by the way was the fact that, um, it’s become harder to find market makers in the Treasury bond markets, which means that when a crisis hits, um, there aren’t people to act as a lubricant to keep the wheels of the system going, and you tend to, to get a much worse crisis in the Treasury bond market as we saw in March 2020 and before. And that to my mind, that’s a very, very serious issue that we’ve not seen play out properly yet, but we could see play out quite soon.

But the really big issue is this. If you’re arguing that the fact that we’ve not had anything more than Silicon Valley break in the last decade is a sign that the system is fixed and/or safer, then I think you’re ignoring a really obvious point, that we’ve had the Fed provide this extraordinary safety blanket, “Putting foam on the wrong way,” as Tim Gardener used to say, on a massive unprecedented scale, in the last 15 years.

And that has in many ways protected the system from many of the bigger shocks. I mean, we’ve had, you know, the Fed’s balance sheet has increased 10-fold. That is a big, big number. And that’s not even counting what the ECB’s done, what the Bank of England done, or most critically, what the Bank of Japan has done and is still doing. And I should say, by the way, we’ve not really had proper quantitative tightening yet.

Because much of what the Fed have been doing has been offset by the fact the Bank of Japan is still going for quantitative easing. And so if you look at it globally, you’ve not really had yet a proper quantitative tightening period for any length of time in a global way that really carries teeth.

So my critical point is this. We’ve not had a proper test yet, because we’ve had so much foam on the wrong way. We cannot keep putting foam on the wrong way indefinitely. They’re trying to take the foam off the wrong way because they know how badly it’s assorted, and, by the way, fueled inflation. So what is gonna happen when the foam is no longer on the wrong way, and the plane’s coming in to try and land?

John Donvan:

Jason, I d- I think that was more than a rhetorical question aimed at you.

Gillian Tett:

(laughs).

Jason Furman:

(laughs). Yeah-

Gillian Tett:

That’s why you’re afraid of-

Jason Furman:

… so-

Gillian Tett:

… a foam [inaudible

].

Jason Furman:

… s- so I think there are some places where Gillian and I have somewhat different emphasis, and then there’s at least one issue where, uh, she’s completely wrong, and I’m totally right. You need to distinguish between two very different things, the Fed does. One is in March 2023, they stood up emergency lending facilities, because banks were potentially gonna have runs and run out of money. And they said, “We’re willing to lend to you in ways that maybe we shouldn’t even lend to you, but we’re sorta desperate enough that we need to do it.”

That was done for financial stability. I think that meets what Gillian’s test was, of throwing a lot of foam on the runway to prevent problems. There’s a second thing that they’ve done on and off, and far more on than off, over the last 15 years, which is called “quantitative easing.” And that’s where they buy long-term Treasury bonds, and buy long-term mortgage bonds, with the goal of keeping their interest rate down.

That actually isn’t about helping the financial system, and in fact in many ways that actually hurt bank profits and made it harder for banks. That wasn’t foam on the runway for a financial system, they needed to do that for a macroeconomic reason, that they have a goal of maximum employment, a goal of price stability, and the inflation rate was too low, and they were trying to provide much-needed stimulus.

The reason they did all that quantitative easing, I don’t think is because they were trying to help the financial sector, in fact I think it might have hurt more than it helped, but they were trying to do what they needed to for the economy, because things shifted in the economy and lower interest rates were required to achieve the same goals that was the case before. So I don’t think that was a mistake, I don’t think that played a huge role, though it played some role in where we are now, and they’ll keep that balance sheet large for as large as they need to, and they can keep it large forever.

There’s not really much cost or harm to that, because they’re paying interest on one side of it, collecting interest on the other side, and it roughly washes out.

Gillian Tett:

There’s a difference between emergency measures to try and support the financial system at times of crisis, and regular quantitative easing to try and help the economy. However, it actually did end up feeding through to the, um, financial system, the second sort of QE, um, for two reasons. Firstly, by keeping money super, super, super cheap to help the economy, what it did to finance, is turn everybody into, um, someone who’s gonna play the carry trade.

And so, almost every aspect of financial institutions have been engaged in borrowing short, and borrowing cheaply, to invest in high-yielding assets with duration, i.e., longer term, and that’s created a massive mismatch across the entire system. Point one.

Point two is by essentially having interest rates super low, um, for the best part of 15 years, what you’ve done is stopped defaults in the real economy. And the credit losses have been tiny across the financial system. And that of course has helped banks. Now, you start raising interest rates, you start taking the foam off the wrong way in terms of economy, because it’s not just foam on the wrong way for the financial system, but also for the economy. You start taking the foam off the wrong way for the economy, and guess what you’re gonna have, a lot of defaults going forward.

And that’s another example of essentially realizing you can’t keep the foam on the wrong way forever, and when you take it off, it’s going to be harder to cope with problems going forward. And that last point matters enormously, because the only part of a shock we’ve seen to the financial system so far in the last year has been an interest rate shock. We have not seen a credit shock, because we’ve not had a credit shock, yet. That is what’s coming as interest rates go up, and you start to see maybe consumer just defaults, but almost certainly risky corporate loan defaults.

John Donvan:

Gillian, I’ve seen you in interviews talking about a vulnerability to the system that was not evidence in 2008, and therefore not addressed. And that was in the case of the Silicon Valley Bank run. The role of social media, the way that we’re connected now, and I was expecting you to bring that into this conversation. Is it not relevant to the point we’re arguing about 2008 or not?

Gillian Tett:

Um, I think it’s relevant in the sense that what you’re getting through with social media is an accelerant, um, I believe. Um, we don’t actually know yet, because people haven’t really discussed this very much yet. But, you know, the enhanced information that everybody has on what’s going on, and the speed of information where that travels, and the degree to which you can get what I call “cyber flash box,” people coming together and collecting panicking and herding, I think is accelerating some of the reaction processes in finance in ways that we don’t fully understand.

Um, and two points to make of that. One, the Federal Reserve needs to get out of the 20th century, and start actually being able to respond to these 21st century, um, digital bank runs. Um, and that means doing things like keeping its, um, emergency measures open for more than a few hours a day. Um, one of the things that happened with Silicon Valley Bank was that it went to the Fed late on Thursday and said, “We need cash or we go bust,” and the Fed window was closed, and of course they had mobile banking 24/7, so it got worse and worse.

And the second thing that needs to happen is people need to think about how digital finance changes, um, our reactions, and the financial system’s operations. And that’s really the realm of behavioral finance. And just as one of the key things that drove the 2008 crisis was that there was a subtle shift in America in terms of the acceptability of defaulting on a mortgage, which hadn’t historically been acceptable but became acceptable, and that really mattered in terms of the cultural patterns and the default rate.

So, too, people needed to [inaudible

] for finance analysis, to look at what social media’s doing to finance now.

John Donvan:

After 2008 we saw reforms put in place to, part- particularly I’m thinking of the Dodd-Frank Act, which put requirements on banks to, to maintain certain levels of liquidity, certain capital requirements as well to submit themselves to stress tests, if they were, uh, significantly large enough. And then in 2018, um, some of these reforms were, were loosened. Uh, some of these res- re- uh, restrictions were loosened.

And I would just like to get the take from each of you on that on number one, uh, how impressed are you with the, the um, the requirements of Dodd-Frank as a safety net, and, and what do you think has been the impact of those, that safety net having been loosened? Why don’t you go first, Gillian?

Gillian Tett:

Well I think Jason is the person who really should talk about this, because of course he crafted the rules, which were then reversed.

Jason Furman:

Yeah. So, the 2018 reforms, the central thing was saying that instead of banks that were, had 50 billion in assets and above being potential systemic risks, so needing to fall under stronger rules, that threshold was raised to 250 billion. Well, when Silicon Valley Bank failed, I think it had about $215 billion of assets. And it was definitely a systemic risk. Had nothing been done, um, it could have brought down a bunch of the banking system.

So clearly those 2018 reforms were a mistake. I’m not sure how much of a causal role they played. In it, there were rules that already applied to Silicon Valley Bank that had the supervisors effectively monitored and implemented them, they probably could’ve flagged and prevented, uh, that they did flag, um, but they probably could’ve done more to stop, um, this behavior.

And so, yes, we should basically go back to something closer to what the rules were in 2018, but the bigger issue was the way that the discretion was being wielded. And there was an effort out of Washington that started, um, in the Trump administration of basically saying, “Let’s be very lax in the way we supervise these banks.” And that was a mistake, that I think is being undone now, and should be undone now.

John Donvan:

Was it a mistake-

Jason Furman:

And-

John Donvan:

… that moved us closer to the risk of 2008?

Jason Furman:

It moved us in that direction, yeah. It increased the risk in the financial system, again, I think still quite far from where we were in 2008.

John Donvan:

Gillian, you mentioned in your opening statement that in some ways, the measures that were taken to make the system safer in 2008 actually have tied the Fed’s hands to be on the spot to address issues that might come up. But you weren’t specific about it. So could you go a little bit more into depth about that?

Gillian Tett:

Yeah, when the 2008 crisis happened, the Federal Reserve in some ways had a lot of freedom to intervene. Um, and so things like the AIG, um, policy response, which was, you know, pretty importance in trying to stop a complete full-blown run across the entire financial system, were things that the Fed could do, it had the legal powers to do. Um, at the same time, the FDIC was able to act with a lot more freedom in that stage about trying to extend deposit insurance when it felt it needed to.

Since then, however, the legislation has been changed, and the Fed’s hands have been tied to a certain degree about how much it can and cannot step in to try and bolster financial institutions. Um, it’s one reason why it’s now using the discount window of the lending facilities instead.

Um, and the FDIC has this rule that although the limit of the insurance, um, for individual accounts that it can step in and protect and guarantee have been raised to 250,000 per person, or 500,000 for a couple, um, you know, the FDIC can’t suddenly wake up one day and say, “We’re going through this, you know, tremendous period of risk a turbulence because interest rates are rising. Um, we, you know, let’s have a deposit blanket insurance for everybody for a sh- a short period of time while there’s these stressors.” The FDIC can’t do that.

So, one of the problems that erupted around Silicon Valley Bank was that because so many of its deposits were uninsured, there was initially, um, the assumption that actually they may not be protected if the bank went down, no one knew. In fact, the FDIC then determined that Silicon Valley Bank was supposedly system, um, and protected all the accounts at the cost of $20 billion. It then did the same thing for Signature Bank, um, at the cost of $2.5 billion.

But it did that, you know, after the event, um, by slightly twisting the rules so to find these sys- systemic. No one knows going forward what would happen. So, one of the things I would add to the to-do wishlist, um, is to basically give the FDIC the power if it feels like it, to extend insurance for a period of time in a blanket manner, um, and to ensure that the Fed have a lot more leeway to act as well.

Jason Furman:

Just to give a little bit of “the glass is half-full” case, because I think that’s the side of this debate, um, that I’m on, there was a concern after the financial crisis, that limiting some of the powers that the Fed had, one of them was those blanket guarantees for FDIC insurer that the Fed and the financial regulators had, um, one of them was, um, lifting the insurance, um, levels for banks.

Um, another one was that you couldn’t do a program that was just for one institution. You had to, if you rolled out a new program, it had to be available for everyone. And some of the people involved in the response to the last crisis really warned that when the next one comes along, we’re gonna find that our hands are tied, and we’re going to face a greater set of risks. We won’t be able to respond to it the way we did to the financial crisis.

I think the events of the last couple months have proved that those hands weren’t tied particularly tightly. Yes, you couldn’t do the simple, straightforward FDIC guarantee, but you could do it for these two banks. If the regulators wanted to go out and say, “We d- can’t do a blanket guarantee, but we promise that for the next year that if any more banks run into problems, they’re going to get a guarantee too, um they could do that.”

Um, they could go out and say that tomorrow. They could bring certainty. They’ve chosen not to, but that isn’t because of the rules themselves. Um, and then you can’t do things for particular institutions, but you can create a set, a program that’s available to any institution that’s a little bit designed with one in mind, so that they can take advantage of it. So yeah, I wish the regulator’s hands were tied a little bit less, that makes me a little bit nervous. But frankly I’ve been relieved, um, that those hands were tied less strongly than some people had feared they might be.

John Donvan:

Okay, well we are honored to have, um, some journalists joining us who, uh, who cover this area, uh, closely, and have some questions of their own. I’m gonna bring them in one at a time, but I want to start with, uh, Victoria Guida, from POLITICO. Welcome to the conversation, and we would really welcome your question.

Victoria Guida:

Thanks so much for having me on. Um, so my question is really for both of you. As part of Dodd-Frank, it seems like one of the ways that it was supposed to help things, is by putting in place a structure under which a mega bank could be unwound in an orderly fashion. And if you look at SVB, um, you know, it was a big bank, but, but obviously just a small fraction of what a mega bank is.

And there was, uh, systemic concern because of contagion, con- because of concern about panic. And so my question is, uh, maybe this is more for Jason than for Gillian, but for both of you, um, how can we say with a straight face that we can conceivably unwind a big bank without causing considerably more panic?

John Donvan:

Uh, Jason, why don’t you take that first?

Jason Furman:

I can’t say that with a straight face.

John Donvan:

(laughs).

Jason Furman:

Um, we can’t, Victoria, and in that sense, the system is equally unsafe to what it was, um, before. Um, we’ve mostly been talking about the United States, but let me use Switzerland to, uh, make, uh, to make this point. And the rules in Switzerland and in Europe and in Japan, they’re all reasonably similar, um, in this regard. Um, the Swiss National Bank did a report in 2022 as they do every year, looking at the risks in the financial system. And they correctly said, “Credit Suisse is a big risk in the financial system, we’re really worried about it.”

They then said, “But don’t worry, we have a plan in place that we’ve worked out with them, that if there are any problems, we’re gonna follow exactly this plan, and that’s how we’re gonna deal with it.” Well, when Credit Suisse ran into the problems that weren’t a complete surprise to the Swiss regulators, they threw that plan out the window, they didn’t use it. They just spend the weekend doing a shotgun marriage, um, with, with BNP, and throwing money in, and doing all sorts of stuff that, uh, wasn’t part of that plan.

So I think those so-called, they’re called “living wills,” as you know. I think those so-called “living wills,” I knew people a decade ago that were telling me, “If push comes to shove, we’re never gonna actually use these.” And I think those people were right. So I think, um, we’ve made the system safer in a lot of ways, um, I don’t think the living wills is one of those ways.

Gillian Tett:

I’ve heard of that, I mean, even as, not “even,” but especially the Swiss Chief Regulator herself came out and said, “This doesn’t work.” Or, um, or sorry, the Finance Minister, “It doesn’t work.” You know, this kind of calm dismembering of banks in a crisis. And if you go from the mega, um, situation of something like Credit Suisse, to a Silicon Valley Bank, you know, one of the really interesting things about Silicon Valley Bank is that the FDIC has had this very, very well-worn playbook for a long time, about how to basically kill a bank calmly.

And I remember to going to talk to them in 2008, and they have all their systems in place, you know? Small little bank in some, middle of nowhere, is going down, they’ve pretty much got the template press release, they’ve got the whole fire drill, I used to joke with them, it was like going into the ER department at a hospital. It was like, “Okay, formal patients coming in, bing, bing, bing, kill them well off,” very night, boom-da.

And I remember joking once, they said, that you know, they had to remember to sequence the press releases in the correct time zone to make sure they didn’t kill the West Coast Bank before they killed the East Coast Bank on a Friday night, and that was the playbook. It worked really well.

As we saw with Silicon Valley Bank, it doesn’t work in a word, in a world of digital bank runs. Because in the case of Silicon Valley, Valley Bank, not only did the money go out so fast, that they had to go in and kill it in the middle of the day, I mean Friday morning, late Friday morning, which has never been seen before, but the normal process, so very calmly pitching the assets to other banks who might come in and buy it or absorb it or take it over, broke down too.

Because they had the weekend, in any other situation 20 years ago, they would have actually sold the whole thing to somebody else. They simply couldn’t organize any kind of beauty parade, or any kind of sales situation that fast. And so the thing dangled in limbo, and you saw the same thing with the other banks too. So again, one of the problems with this living will situation, is it doesn’t actually work in a world of it, hyper-accelerated bank runs.

John Donvan:

Our next question is coming from, uh, Gregory Robb. And Greg is with, uh, MarketWatch. And Greg, why don’t you jump on in?

Gregory Robb:

Let’s, I wanted to talk about the US housing market. I mean, every home in DC costs a million dollars now, it’s, it didn’t used to be that way. And I was, I was wondering if, you know, if some people are talking about, “Will home prices fall in the United States at some point?” And, and, and I was wondering if- if there was a big drop in home prices, wouldn’t that be a big shock for the, for the banks? Do you think the banks will get through that kind of a crisis?

Gillian Tett:

Jason, that sounds like one for you. I can-

Jason Furman:

Yeah-

Gillian Tett:

… jump in.

Jason Furman:

… that was me.

Gillian Tett:

As I was, I mean, I can just quickly say very quickly that, you know, it comes back to my point about moving from an interest, interest rate shock to a credit shock, and default shock. Um, and the answer is, it would be extremely nasty. I mean, and you know what, some, some version of that is already happening in the commercial real estate world, and the noose is tightening. It’s getting, it’s starting to have a nasty chain of reactions, um, in the financial system.

John Donvan:

Jason? Yeah.

Jason Furman:

The problem we’ve had so far is the interest rates going up. We have not yet had a problem of commercial real estate borrowers not paying their loans back. I think we will have that problem, but I think it is a little bit more of a garden variety-anticipated problem, not that that’s gonna mean it’s gonna go perfectly fine when it happens.

John Donvan:

And Greg, we have time if you wanted to, to do a follow-up question.

Gregory Robb:

Um, thank you. I- I guess, um, m- I’m l- reading a lot of what people say about the crisis, and it’s interesting. A lot of people seem, a lot of experts seem to think it rhymes more with the Savings and Loan Crisis than with the 2008. And I was wondering if you could talk about that.

John Donvan:

Gillian?

Gillian Tett:

Um, I think that’s a really good point, and I’d say in lots of ways you’re right because a lot of what happened with the S&L was indeed about an interest rate shock, um, not just a credit shock. Um, it’s worth remembering we’ve not really had, you know, a nasty interest rate shock in the US economy for a very long time, and you have to go back arguably to 1994, and the whole sort of, you know, derivatives crisis and things like that, um, with Orange County to look at it last time.

It’s one reason why people weren’t paying attention to it. Um, so, in that respect, there is a parallel. The other parallel, of course, is you’re dealing with a lot of small banks, some of which had fairly concentrated business models. Um, SVB had a very concentrated business model. Um, you know, a number of the smaller banks in America have got concentrated business models, it’s not geographically, but around things like commercial real estate. So that’s another parallel.

Um, the other issue to think about, though, is what’s different this time around. What’s different on the good side is that you do have things like the FDIC, that’s had decades of experience of killing off small banks, as I’ve just mentioned earlier. The bad news, though, is this interconnection problem.

And, when these S&Ls went down, basically, you first of all didn’t have a large proportion of uninsured depositors in those days, so you didn’t get this massive flight. And you also didn’t get quite the same level of contagion risk from extreme information transparency. Today, you have this large chunk of uninsured depositors, it seems, although as Jason says, maybe the FDIC will come out and say it will actually, de facto, support everyone.

But you also have this propensity for panic and contagion. So, the reason they stepped in for Silicon Valley Bank in signature, was precisely because of this contagion risk in a digital world. And that’s where it’s different and potentially more alarming.

John Donvan:

Jason, same question.

Jason Furman:

As usual, I agree, um, that was-

John Donvan:

(laughs).

Jason Furman:

… that was really well put. I mean I- I think the issue that is similar to the Saving Loans, first of all, it involves a lot of institutions, not just, you know, one or two huge ones. And that there’s going to have to be, you know, a change that happens over time. Um, I think we used to have some 5,000 banks in this country, now we have about 3,000. 5 or 10 years from now, in part because of these digital bank runs that Gillian’s talked about, I don’t think there’s a business model that is going to work for 3,000, um, separate banks.

The issue, though, is, is the form of consolidation we’re gonna see, that, you know, every fifth weekend for the next year, there’s a banking crisis in a new bank, some new shotgun ad hoc arrangement, and all of this adds up to, you know, taking the unemployment up to 10%, that would be the financial crisis version.

Or is this over the next five years you’re going to see, you know, two regional banks merging, one larger bank buying up, um, a smaller one, and other banks figuring out new lines of business that they can make more money from in a world where the model of paying depositors zero when interest rates are five, and hoping no one notices, um, just doesn’t work as well anymore.

And I can’t tell you for sure, um, which one of those two, the rapid financial crisis version of consolidation, versus the more orderly gradual one, I absolutely grant one of those, the status quo is not sustainable. Um, I tend to lean, though, towards this will be a more, you know, orderly process that plays out over many years.

John Donvan:

Greg, thanks so much for your question. Uh, we have time for one more question that’s coming through the chat box. Um, and it’s from Alexis Glick, who, uh, was a Wall Street, um, executive. Um, it doesn’t specifically address whether we’re safer than in 2008, but it’s tangential to it, so I’m gonna take the question.

And the question goes like this. “In hindsight we know that the CEO of Silicon Valley Bank was also a director of San Francisco’s Federal Reserve when that bank was receiving multiple citations. When the bank failed, he was removed. But how do we ensure this kind of conflict of interest doesn’t happen again with other banks?” Uh, I’m guessing you’re gonna agree again on this one, what, whatever you say. But, uh, I’ll let you go first, Jason.

Jason Furman:

Well, I mean I think this one makes my case a little bit, in that, um, this happened with Dick Fuld and Lehman Brothers on the board of the New York Fed in 2008. After that there were some reforms that dramatically reduced the power that these board members had. And so, I do think the fact that the Silicon Valley Bank CEO was on there probably didn’t matter and probably isn’t why this happened, but it looks awful. It looks terrible, and there’s no reason it should be governed this way. These are public institutions. This shouldn’t be governed by our bank.

So I think we do need another round of reforms, although I think most likely those reforms will help on the optics, um, rather than the reality. But either way, um, they should be done.

John Donvan:

All right, well that concludes the, uh, free and open conversation part of the program. Um, Jason, you’ll get to go first. Again, you are arguing that the banking system is safer in 2008. One more time, why are you on that side?

Jason Furman:

Yeah. So, a lot of the reforms that Gillian and I agreed on in many cases are doing more of what we did in 2008. So, um, we didn’t discuss this one, but the amount of capital that banks needed to hold was increased. I would increase it, um, even more. In some cases there were things in those reforms that introduced unintended consequences. For example, telling banks to go out and hold treasuries, or reducing some of the powers of the regulators, we should undo those.

Um, some of the things were well-intentioned, but turns out they didn’t work out, and probably they could never work, getting banks, um, to write living wills. But I’d step back and remind ourselves of the big picture. Right now the unemployment rate is quite low, consumer spending is quite high. Businesses have a lot of access to credit, and all of this is after two massive shocks to the economy, first COVID, and second, a very rapid rise in interest rates.

And it’s a testament to the fact that the system is a lot safer today than it was 15 years ago, that we were in the position to whether those shocks, with some problematic side-effects, side-effects that we might even have been able to avoid if we had just kept, uh, and enforced those rules a little bit better. Um, but even if that’s not the case, um, they pale in comparison to just the enormously, um, unsafe system, with the huge consequences, that we all lived with 15 years ago.

John Donvan:

And Gillian, one more time why you are arguing “No” on this question.

Gillian Tett:

I would argue “No” for precisely the reason actually Jason just finished with, which is that, “Yes,” the real economy right now is actually pretty good in lots of ways. We’re not living through a massive, massive economic shock right now. What is gonna happen when things get worse in the future? Because they invariably will. It’s not just the fact that you haven’t really seen rising interest rates feeding through to the real economy at all yet, probably. That is gonna happen over the next year, and you’re gonna have a wave of credit losses.

It’s also the fact that you’ve got a very uncertain geopolitical landscape, and energy shocks are still entirely possible going forward. So, at some point, we’re gonna see in the next year or two, a situation where higher rates in the US are going to feed through the real economy and raise the volts. We may or may not see inflation coming down, I think the Fed’s certainly currently signaling that it doesn’t see a dramatic drop in inflation at the moment.

We are likely to see Japan, and everyone in the US has ignored Japan, but it matters enormously right now for financial conditions, Japan beginning some kind of tightening program too. And the weather in financial and economic terms, is going to be very different. So, I’d go back to what Jason said. Yes, the bank, parts of the banking system are indeed safer, because of the reforms that he put in. And I agree with him, they shouldn’t have been rolled back.

But as a wider picture that really worries me, and if we get a nasty shock from somewhere, the fact that we’ve already used up most of our fiscal space, the fact the central banks have already massively loosened and done quantitative easing in all kinds of ways to try and help the economy, um, put foam on the wrong way. And the fact that basically you have an increasingly interconnected financial system, all of that adds together when you look at the risks in private capital and things like that, to a potentially risky world.

John Donvan:

Thank you very much, and that wraps our debate. I also want to thank Victoria and Greg and Alexis for your questions. I especially want to thank, though, um, Gillian and Jason. I, I hope it’s clear to everybody who’s listening, why we keep having you back as debaters. We just think that you shed a lot of light, you explain complicated stuff to people in ways that they understand, you disagree robustly but with respect for one another, which is the whole point that we’re trying to get across, with our program “Open to debate,” which means debating with an open mind, and being open to debate in the first place.

And for everyone else, I want to thank you for tuning into this episode of “Open to Debate.” You know, as a non-profit, our work to combat extreme polarization through civil, respectful debate, is generously funded by listeners like you, and by the Rosenkranz Foundation, and by supporters of “Open to Debate.” “Open to Debate” is also made possible by a generous grant from the Laura and Gary Lauder Venture Philanthropy Fund.

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