(Bloomberg) -- For the Federal Reserve system, oversight failures ahead of the collapse of Silicon Valley Bank ran coast to coast.

At the San Francisco Fed — largely responsible for monitoring SVB — there was heightened turnover among supervisory officials in recent years, according to people close to the situation. The culture under President Mary Daly at times put more emphasis on improving relationships among staff than installing people with strong oversight backgrounds, leading to departures, the people said.

Staff for the Fed board in Washington had informed some officials of their concern around Daly’s management of her branch’s supervisory and regulatory work, according to four of the people familiar with the matter.

The sudden collapse of SVB — the second-largest bank failure in US history — and the ensuing fallout has the Fed reckoning with how its oversight went wrong. Lawmakers on Wednesday are set for a second day of testimony on the crisis from Vice Chair of Supervision Michael Barr, who is leading an internal review that’s set to be released by May. In and around the central bank, the finger-pointing has already started, with blame taking shape from the San Francisco branch to the Board of Governors ultimately in charge.

“There was a significant supervisory failure,” Dan Tarullo, a former Fed governor who oversaw financial regulation and supervision at the board, said Thursday on Bloomberg Television’s “Wall Street Week” with David Westin. One issue he raised was the Fed’s failure to stress-test banks for potential vulnerabilities from soaring interest rates, which were a major contributor to SVB’s downfall.

Bloomberg has reported that San Francisco Fed examiners identified warning signs at the California lender more than a year ago, and in recent months raised concern over the firm’s monitoring of risks tied to rising interest rates. Barr told the Senate Banking Committee Tuesday that supervisors issued multiple warnings to SVB and called its failure “a textbook case” of bad bank management.

Read more: SVB Management and Banking Rules Put on Trial at Senate Hearing

SVB — whose chief executive officer, Greg Becker, was on the San Francisco Fed’s nine-member board from 2019 until his company’s implosion — collapsed following bets on bonds that lost value as interest rates rose. Its Silicon Valley clients began drawing down their deposits en masse, forcing the lender to sell assets at losses and setting off a panicked run on the bank.

Becker, like directors of all regional Fed banks, had no involvement in the San Francisco Fed’s supervisory or regulatory decisions.

Supervisor Departures

Daly, an economist, took over as president of the San Francisco Fed in 2018 after more than two decades working there. Critics of the branch take issue with what they saw as her leadership team’s overzealous approach to improving happiness in the ranks, according to people close to the central bank’s inner workings, who asked not to be named speaking about internal matters.

One example: About a year into her tenure, Daly called a meeting with the supervision unit’s leadership. Internal employee satisfaction surveys had just come back, and the supervision group’s were the lowest. As the group’s managers gathered on the branch’s 12th floor, Daly scolded them, requesting they take the weekend to decide whether they wanted to continue working there. 

In Daly’s view at the time, low engagement in the supervision unit could have led to poor oversight outcomes, said a spokesperson for the San Francisco Fed, who declined to comment further or make Daly available for an interview. A representative for the Fed in Washington also declined to comment.

The San Francisco Fed’s supervision unit has since undergone multiple personnel changes, the people said. In 2021, the branch’s head of supervision, Tracy Basinger, retired after four years in the top job and decades climbing the ranks of that function. By contrast, her replacement, Azher Abbasi, was formerly head of audit. Basinger and Abbasi declined to comment.

It’s not entirely uncommon for supervisory heads at the regional branches to have backgrounds in other areas, and experience is required for some roles. Abbasi’s appointment was made in consultation with the central bank’s vice chair for supervision at the time, Randy Quarles. 

The San Francisco Fed also faces a unique challenge: Keeping tabs on Silicon Valley’s many aspirations for pushing into the banking world. But the branch was caught flat-footed in a notable episode.

Four years ago, Meta Platforms Inc.’s Facebook unveiled an ambitious global cryptocurrency effort then known as Libra. Some at the San Francisco Fed were unaware of the launch, according to two people with knowledge of the matter. There was so much regulatory blowback against the proposed offering that it was ultimately withdrawn.

Fed Review

The Fed’s Board of Governors has ultimate responsibility for bank oversight and sets the direction in supervising large institutions — a classification SVB officially took on more than a year ago. 

“The real question here is: How come the supervisors didn’t pick up on the fact that SVB had gamed the rules to take on a lot of interest-rate risk without holding an adequate amount of capital against it?” Lev Menand, an associate professor of law at Columbia University who researches money and banking, said on Bloomberg’s Odd Lots podcast. “It’s a pretty obvious maneuver and not a novel one — you would think any seasoned supervisor looking at the balance sheet could pick up on this quickly.”

At the Senate committee hearing Tuesday, lawmakers from both parties expressed shock and anger over SVB’s sudden collapse and the fallout. 

“It looks to me like the regulators knew the problem but nobody dropped the hammer,” Senator Jon Tester, a Montana Democrat, said to Barr.

Barr said the central bank is evaluating whether more stringent standards would have led to better risk management at SVB. He was unable to tell lawmakers whether Fed officials were visiting SVB’s offices in person on a daily basis or if supervisors met with the lender’s risk committee. 

As for the Fed’s internal review, he said that the culture and structure of oversight inside the central bank will get a look.

“Do supervisors have the tools to mitigate threats to safety and soundness?” Barr said. “Do the culture, policies, and practices of the board and reserve banks support supervisors in effectively using these tools?”

He has already rolled out one new measure. Supervisory staff are establishing a unit that looks at banks with novel risks. Unlike standard bank supervision where oversight gets tougher by size, the new team will be more focused on the risks novel banks are taking no matter how big they are, and will look horizontally across several of them.

Some of the SVB turmoil, meanwhile, has eased. The lender is set to be acquired by First Citizens BancShares Inc. — which would become one of the top 15 banks in the US.

(Update notes reserve bank directors have no involvement in supervision in ninth paragraph.)

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