For Regional Banks, Does More Debt Mean Fewer Problems?

The requirement for megabanks is part of what is known as the Total Loss-Absorbing Capacity, or TLAC, standard. This helps regulators with the job of resolving a troubled bank by providing an extra, cushioning layer of debt that can be wiped out and converted into equity in the event that the government needs to recapitalize a failing bank. The hope is that with a “bail-in” from such debt, the government can avoid funding a bailout with money from taxpayers or the deposit-insurance fund.

In a situation such as the one for Silicon Valley Bank, it might have helped to have funded more of its business with unsecured debt. Back in 2019,

Martin Gruenberg,

who was then a board member at the Federal Deposit Insurance Corp. and is now chairman, highlighted that, for resolving a bank with no acquirer and “little or no unsecured debt to absorb losses,” it is likely that it “would require that uninsured depositors take losses.”

That said, the current market environment might be a tough one for banks to be issuing more loss-absorbing debt. For one, debt investors are now hyperaware of the risks of instruments with some of these features after holders of

Credit Suisse

Additional Tier 1, or AT1, bonds were wiped out to help facilitate its acquisition by

UBS.

Plus, banks are already going to be facing a squeeze on their earnings going forward from higher interest costs as depositors demand higher rates on their cash. Long-term debt such as unsecured bonds are usually an even more expensive source of funding.