Why US regulators let banks lose billions — as long as losses are 'unrealized'

Silicon Valley Bank disclosed it had $1.8 billion in paper losses on some bonds at the end of 2022.

And yet the lender didn't reduce a key measure of capital strength monitored by regulators. Those losses became existential for the bank once it was forced to sell these assets, triggering a run that ended with the bank's seizure on March 10.

The U.S. banking system currently has hundreds of billions in unrealized losses lurking in its system that don't weaken buffers designed to protect banks from future shocks. Why would regulators allow that?

The short answer: Compromise.

Years ago, U.S. supervisors decided most small and mid-sized institutions could opt out of deducting paper losses on bonds from key regulatory capital levels. In essence, these banks are allowed to report assets that are stronger in theory than they would be in practice. As Silicon Valley Bank — and the broader investing public — found out earlier this month.