Exploring the Recent Banking Collapse – What Went Wrong and What Can We Learn?

Bank failures are not uncommon during economic downturns. The recent collapses of three large banks in the United States have raised serious concerns about financial stability and the security of deposits. It was the biggest banking failure in the United States since the 2008 financial crisis.

Overview

On March 8, 2023, Silvergate Bank, a cryptocurrency-focused institution, announced its closure due to loan portfolio losses. Two days later, Silicon Valley Bank had a bank run that caused it to fail and be seized by regulators.

Most recently, on March 12, 2023, Signature Bank announced that it was entering liquidation due to financial distress. Signature Bank, which had been doing business with cryptocurrency firms, was also closed by regulators.

These three bank collapses were the second and third largest bank failures in the history of the United States; after Washington Mutual's closure during the 2008 financial crisis.

These recent bank closures have raised concerns about whether banks are adequately capitalized and regulated.

Analysis Of Banking Failure

Case of the SVB:


The collapse of Silicon Valley Bank (SVB) was particularly noteworthy. SVB's demise occurred abruptly, after a frenetic 48-hour period in which customers yanked deposits from the lender in a classic run on the bank.

However, the cause of its demise dates back several years. During the period of near-zero interest rates, SVB, like many other banks, invested billions of dollars in US government bonds. What appeared to be a safe bet quickly unraveled as the Federal Reserve aggressively raised interest rates to combat inflation.

Bond prices fall when interest rates rise, so the rate increase eroded the value of SVB's bond portfolio. According to Reuters, the bank reached a crisis point in January 2023 when its liquidity coverage ratio (LCR), a measure of how much cash the bank has available to cover its obligations, fell below the 100 percent threshold.

Case Of Signature Bank:

Signature Bank’s collapse was less dramatic than SVB’s, but it too had its roots in the pandemic. According to reports, Signature Bank had been doing business with several cryptocurrency firms since 2020, when digital asset prices surged and investors poured into the space.

Despite this activity, Signature Bank did not have sufficient capital reserves to cover the risks associated with these investments. As a result, its financial position quickly deteriorated and it was placed into resolution by regulators in March 2023.

Case Of Silvergate Bank:

The collapse of Silvergate Bank was the result of a different set of circumstances. According to reports, Silvergate had invested heavily in mortgage-backed securities (MBS) during the pandemic.

As interest rates rose and home prices fell, this investment became increasingly risky and eventually led to losses on its loan portfolio. Additionally, investors pulled their funds from Silvergate due to concerns about its exposure to the cryptocurrency market.

These liquidity issues, combined with rising delinquencies on its loan portfolio, ultimately led to regulators seizing the bank in March 2023.

Why did Banks fail so abruptly?

The abrupt collapse of these three banks can be attributed to several factors.

First, the pandemic caused a massive surge in deposits as people sought a haven for their money. This influx of funds put a strain on the bank’s capital and liquidity reserves, making it difficult to repay depositors and meet debt obligations.
Meanwhile, low-interest rates and the lack of viable lending opportunities led to loan portfolio losses, reducing the banks’ capital reserves further.

Concerns about cryptocurrency volatility also put further pressure on the bank’s balance sheets.
Inadequate oversight by regulators may have played a role in allowing some of these banks to become overleveraged or undersized relative to their risk profiles.

All of these factors combined to create an unsustainable situation that led to their failure.

What are the Implications?

The recent bank collapses represent a serious risk to financial stability in the United States and could have long-lasting implications for consumers and businesses alike.

For example, the failure of these banks could reduce consumer confidence in the banking system and force them to look for alternative ways to handle their finances. Recently, famed actress Sharon Stone, hinted at the loss she took as a result of this current banking crisis.“I know that thing that you have to get on and figure out how to text the money is difficult. I’m a technical idiot, but I can write a f*#&!@g check. And right now, that’s courage, too, because I know what’s happening. I just lost half my money to this banking thing, and that doesn’t mean that I’m not here,” said Stone. However, Stone was not specific regarding the “banking thing” that caused her this stress. Yet, her comments immediately followed the collapse of Silicon Valley Bank and the current market volatility.

The closure of these banks could lead to a liquidity crunch that affects other financial institutions, putting further pressure on the economy. The collapses of Silicon Valley Bank, Signature Bank, and Silvergate Bank serve as a reminder of the importance of risk management in the banking industry.

What is the future of the Banking Industry in the United States?

The collapse of these three banks is a reminder that even the most stable financial institutions can be vulnerable in times of crisis. Despite this, the banking industry remains strong and resilient.

Many banks have taken steps to ensure their balance sheets are better prepared for future shocks, including increasing capital reserves and improving liquidity management.

Additionally, regulators have implemented stricter oversight and guidelines to help ensure banks are operating within safe limits.

President Joe Biden's also assurances to Americans that the US banking system is secure and that taxpayers will not bail out investors in two failed banks should reassure customers of the strength of the industry.

On the other hand, in response to the closures, the Federal Reserve Board of Governors, the Federal Deposit Insurance Corporation, and the United States Department of the Treasury issued a joint statement stating that extraordinary measures would be taken to ensure that all deposits at these banks were honored.

Other than that, the Federal Reserve announced the creation of the Bank Term Funding Program (BTFP), which would provide loans of up to one year in length to banks, savings associations, credit unions, and other eligible depository institutions in exchange for pledging U.S. Treasury securities as collateral.

The BTFP is expected to provide much-needed liquidity to affected banks, helping them meet their obligations and remain solvent in the face of increased economic uncertainty. It also signals an increased willingness on the part of the government to intervene to protect customers’ funds and promote a stable financial system.

Conclusion:

The collapse of Silicon Valley Bank, Signature Bank, and Silvergate Bank serves as a reminder that the banking industry is vulnerable to macroeconomic forces, and that even traditionally stable banks can fail under extreme stress.

Moving forward, it is clear that increased oversight by regulators and more stringent capital requirements are necessary to protect customers’ funds and promote a more stable financial system.

Additionally, the Federal Reserve’s Bank Term Funding Program is a step in the right direction to ensure that all deposits at failed banks are honored and that liquidity remains available for affected banks. Ultimately, these measures are intended to promote a stronger banking industry overall.



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