Silicon Valley Bank Demise: Causes and the Path Forward

The recent demise of Silicon Valley Bank, First Republic Bank, and Signature Bank are three of the four largest bank failures in U.S. history. To address the very real problems of recurring banking crises, the extant literature has focused on bank capital regulation. The corporate governance literature has focused extensively on executive compensation reform. We focus on the interaction among bank capital structure, bank capital requirements and bank executive incentive compensation, and related policy proposals. Specially, we recommend the following compensation structure for senior bank executives: Executive incentive compensation should only consist of restricted stock and restricted stock options – restricted in the sense that the executive cannot sell the shares or exercise the options for six to twelve months after their last day in office. This will more appropriately align the long-term incentives of the senior executives with the interests of the stockholders. Regarding bank capital reform - our bank capital proposal has two components: Bank capital should be calibrated using both balance sheet and market value of equity. Second, bank capital should be at least 20% of total assets (not risk-based assets per current regulatory requirement). Greater equity financing of banks coupled with the above compensation structure for bank managers will drastically diminish the likelihood of a bank falling into financial distress. This has policy implications for the federal deposit insurance.