Partial Effects of Fed Tightening on U.S. Banks’ Capital

50 Pages Posted: 26 Apr 2023

See all articles by Mark J. Flannery

Mark J. Flannery

University of Florida - Department of Finance, Insurance and Real Estate

Sorin M. Sorescu

Texas A&M University; Adam C. Sinn `00 Department of Finance

Date Written: April 19, 2023

Abstract

Silicon Valley Bank (SVB) failed on March 10, 2023, from a depositor run set off by massive unbooked securities losses that became salient only when the firm filed for a stock issue intended to replace some realized, but previously un-noticed, capital losses. The unprecedented increase in market interest rates associated with the Fed’s 2022 inflation-fighting raises the question of whether SVB’s situation reflects a broader problem in the banking system. As of 2022 Q4, we find $623 billion of before-tax security losses unbooked in Common Equity Tier 1 capital (CET1) and $466 billion of unbooked interest-rate-related loan losses. After tax, these unbooked losses ($482 billion and $362 billion, respectively) represent 40% of CET1 and are distributed relatively evenly across bank size classes. We did not measure some possibly offsetting effects on bank capital ratios, but we strongly suspect they are too small to offset these large asset losses. If all unbooked losses were fully reflected in bank balance sheets, roughly half of banks, holding roughly half of all bank assets, would not meet their minimum regulatory capital requirements. This appears to be a major cause for regulatory and depositor concern.

Keywords: Bank Stability, Interest Rate Risk, Capital Impairments, Regulation

JEL Classification: G21, G28

Suggested Citation

Flannery, Mark Jeffrey and Sorescu, Sorin M., Partial Effects of Fed Tightening on U.S. Banks’ Capital (April 19, 2023). Available at SSRN: https://ssrn.com/abstract=4424139 or http://dx.doi.org/10.2139/ssrn.4424139

Mark Jeffrey Flannery

University of Florida - Department of Finance, Insurance and Real Estate ( email )

P.O. Box 117168
Gainesville, FL 32611
United States
352-392-3184 (Phone)
352-392-0103 (Fax)

Sorin M. Sorescu (Contact Author)

Texas A&M University ( email )

Mays Business School
College Station, TX 77843
United States
979-458-0380 (Phone)

HOME PAGE: http://wehner.tamu.edu/finc.www/ssorescu/

Adam C. Sinn `00 Department of Finance ( email )

4218 TAMU
College Station, TX Texas 77843-4218
United States
979-458-0380 (Phone)

HOME PAGE: http://mays.tamu.edu/directory/ssorescu/

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