The San Francisco Fed chief says Silicon Valley is thriving, but “in transitional waters”
More than 260,000 people working in the tech industry were laid off last year, and some CEOs have pointedly put at least some of the blame on high interest rates.
To beat back inflation these last two years or so, policymakers at the Federal Reserve hiked rates at the fastest pace in modern history. And when rates rise, borrowing money gets more expensive.
Marketplace’s Lily Jamali sat down with Mary Daly, president and CEO of the San Francisco Federal Reserve Bank, to get her thoughts on how the tech industry is navigating through this higher interest rate world.
Their conversation also covered the collapse of Silicon Valley Bank, which happened one year ago this week. SVB operated in Daly’s Fed district, which spans nine Western states. The San Francisco Fed came under scrutiny last year after SVB’s failure, but Daly has said that she herself had no supervisory role.
The following is an edited transcript of their conversation.
Mary Daly: When you go back to think about how it happened, naturally people ask, “Well, who was participating in monitoring Silicon Valley Bank?” And the important thing that is really missed oftentimes is that we have a very complicated set of governance in regulatory and supervisory policy. But the Federal Reserve Board of Governors is the place where regulatory policy and supervisory policy is made. Our teams in reserve banks — I’m responsible for the San Francisco team — they report on their supervisory work to the Board of Governors. My job as a reserve bank president is to ensure that I have the right number of staff and that the staff are doing what the Board of Governors has asked them to do. That is really the limit in its current form of how reserve bank presidents participate in the supervisory work. What I think will be the lesson that comes out of the failure of Silicon Valley Bank is we can do more.
Lily Jamali: Should there be more responsibility given to someone in your role?
Daly: It’s a really good question to ask. Here’s what we are looking at as a system. You essentially want to ensure that you have a central place where the decisions are made. That is the Board of Governors. And the reason for that is you don’t want a bank in Arkansas to be treated differently than a bank in California. You don’t want different supervisory programs, different regulatory programs. That is actually not good for banking. So, you want homogeneity across there, both in the framework that is applied and the treatment that is given. So that’s a strength of the system as we have it now.
But the lesson that comes out of Silicon Valley Bank, and in general banking conversations we have with bankers and communities, is that reserve bank presidents are on the ground. We are there talking to banks, talking to bankers, talking to the communities that banks serve. And we could bring more information back to the Board of Governors in a way that is more formal. So, I think one of the big lessons I take away is this is something we can change. We have an opportunity to get more involvement from reserve bank presidents — something that was not part of the portfolio that I had or any reserve bank president really has. But that’s a missed opportunity.
Jamali: What’s something that you know now that you wish you had known at the time?
Daly: We didn’t know that uninsured deposits were so vulnerable to fleeing. If we had known that, then we would have had more thoughtfulness put forward to liquidity provisioning, because if you think that your uninsured deposits are as sticky or close to as sticky as your insured deposits, then you could have different ideas about how much liquidity provision you need. If you think that when the bank is under stress, or even when other banks get under stress, depositors are going to look at that and say, “I’m leaving and I’m going to go elsewhere,” well, that really means that capital is not the only thing in the conversation. Liquidity is also in the conversation. The speed at which SVB collapsed, it really was a bank run, and a bank run is hard to stop once it starts. The speed of it was accelerated by the fact that people can move their money easily, and the minute they got spooked, they did. More work needs to be done, really, to just shore this up. It’s something that a dynamic economy is just going to give us more of, and we must be prepared.
Jamali: What is your read on the current state of the tech economy?
Daly: I think there’s a difference in what I would call the delta — or the change in tech’s fortunes — from where they expected to be with this rapid growth that was really boosted by the pandemic, to where they are now, which is good growth. Tech is still a thriving industry. There are so many new companies, new developments, so many people employed in that sector. It is a thriving sector, but it’s not growing as quickly as it once was. And companies that really ramped up as if that growth rate was going to be continuously going up are having to make adjustments, which is resulting in layoffs.
Jamali: You just used the phrase “good growth,” which implies that what we were seeing before was not good growth.
Daly: It was not sustainable. I started at the Fed in 1996, and I’ve seen many cycles on tech. Here’s something you notice in tech is that there’s a lot of enthusiasm. People bet on that enthusiasm and put as many good ideas out there as possible and then see what lives. That’s easy to do when there’s a lot of resources and a lot of enthusiasm and the economy’s not slowing and interest rates aren’t high. But as the interest rates adjust and the economy slows, then investors in tech or anything else, but in tech in particular, they start to say, “Well, what’s your rate of return on that? When are you going to be profitable?” And there’s just this natural disciplining device that comes in. And it means that companies start tightening to the bottom line. They start asking questions about how much basic research can we do on something, and what is our first and most important work? The thing that’s interesting is, this is how business always operates. If you’re a steel manufacturer, or a furniture maker, or a restaurant, you always do this. In tech, there are these cycles, but not many people in tech are as experienced in how these cycles feel as the people who work in the steel industry are.
Jamali: Would you say overall, we are in a healthier place now than we might have been four or five years ago?
Daly: I say we’re in a more sustainable place. What I hear when I talk to tech leaders and tech investors is that they really are looking for rates of return. They’re looking for the first and best uses of their resources, and where they can put things that contribute to the economy but also earn them a profit. And they’re hiring workforces that are aligned with the goals that they have in mind. So, they are not doing as many things, but they’re doing the things they do better.
Jamali: Let’s talk about the human impact of interest rates rising. More than 260,000 tech workers lost their jobs last year. Spotify had three rounds of layoffs last year, the last one was in December, when they let 1,500 people go, and the CEO, Daniel Ek, sent out a letter saying one of the reasons why was because capital has become more expensive. So, what he’s saying there is interest rates rising as fast as they are is making it harder for him to run his business and keep people employed and that they were caught off guard.
Daly: That’s how monetary policy actually works. Now, it’s a hard aspect of the tool we have at the Federal Reserve, but the way it works is supply and demand are out of balance, inflation rises, we raise interest rates, that transmits into lending costs, borrowing costs, and what you end up with is an economy where projects that were once profitable when interest rates were near zero, are no longer profitable when interest rates are over 5%. That is how we slow the economy so that the demand and the supply come back into balance and inflation comes down. That is a normal way that an economy works. It’s the normal way that fighting inflation works. It’s an experience that commercial real estate, steel and other businesses have gone through. The tech sector has historically been a little more insulated from interest rate changes, and they’ve been more insulated from the fact that they’re now an aged industry. I see the tech sector as going through a natural maturity cycle. If you look 30 years ago and 20 years ago and 10 years ago, it was this burgeoning upstart sector and it’s growing, growing, growing and every year is better than the last. Now, it’s really a maturing industry. And some of the big stalwarts of tech are now companies that look like the big industrials.
Jamali: Are you saying the tech bros have grown up?
Daly: What I’m saying is this is a natural progression of an industry. It starts as an upstart, it builds itself, it has rapid growth in its early decades, and then it gets to a point where it operates like other companies, where bottom lines matter and where you have to make strategic trade-offs, and where your sensitivities to the economy and the interest rates grow. And you start thinking about how to sustain this business in the long run. So, it’s very different than saying the tech sector is in a crisis or the tech sector is in challenging waters. The tech sector is in transitional waters.
Jamali: It’s interesting to hear you say this because when you look at [artificial intelligence] and that subsector of tech, it can feel like there’s some of that same dot-com era exuberance.
Daly: The tech enthusiasts have moved to AI, and I think that’s a healthy thing. You need early stages in sectors. So tech is a big thing. Tech is a really simple word for a big set of sectors. You can have search, computer networks, chips, and you can also have these new industries like AI, which has been around for a long time, but generative AI is of course something brand new to most people, even though the elements of it had been in the works for a while. Those are all creating enthusiasm, but the enthusiasm is quickly being followed in the generative AI with use cases that make people’s lives and work better and easier. So that’s the thing that I’m watching personally — is this more than tech enthusiasts? Are we seeing it actually being used in businesses and in communities to make work better, more effective, more efficient and perhaps even start to do different things than they ever imagined? So, that’s where the growth comes from.
The San Francisco Fed recently created the EmergingTech Economic Research Network. It will develop and host research on how the evolution of tech — and yes, generative AI is the big one currently — will affect financial institutions, payment systems and even monetary policy.
The plan is to study this stuff while technologies are still up and coming.
This week also marks the launch of Daly’s own podcast, “Zip Code Economies,” featuring her interviews with residents of her district.
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