The past week we experienced the wind down of three banks by regulators, and they are now in the hands of the FDIC for resolution and work out. SiIvergate, Silicon Valley Bank (SVB) and Signature Bank were all closed last week by their respective regulators as a result of "a run on the bank". A bank run is a situation in which a large number of depositors withdraw their funds from a bank in a short period of time, typically due to concerns about the bank's solvency or financial stability, as was the case with Silicon Valley Bank. This can occur when there is a lack of confidence in the bank's ability to meet its obligations to depositors, such as paying out withdrawals, ACH, wire transfers or honoring checks. This is what happened with at least one of these banks, Silicon Valley Bank. SVB did not have any real loan problems that I am aware of, but had mismatched their customers deposit liabilities, with long-term government bond investments. Banks typically park or invest their excess liquidity or deposits into government bills, notes or bonds. The US banking system operates on a Fractional Reserve system. Which means banks only hold a fraction of their assets in cash or short term investments. SVB invested their excess depositor's funds into long duration (30 year government) securities with a fixed rate as low as 2.5% When the Fed began raising rates last year the value of the government bonds went down by as much a 25%-30% in some cases. SVB sold their bonds at a loss and failed to raise adequate capital to offset the loss on the bonds. Bond yields and bonds prices have an inverse relationship.
Bank runs can be triggered by a variety of factors, including rumors about the bank's financial health, news of financial problems in the wider economy, or other events that lead depositors to question the safety of their funds. When depositors start to withdraw their money, it can create a self-fulfilling prophecy, as other depositors may also become concerned and rush to withdraw their funds, causing a domino effect that can quickly lead to the bank running out of cash.
Bank runs can have serious consequences for both the bank and the wider economy. When a bank experiences a run, it may not have enough cash on hand to meet all the withdrawal requests, which can force it to sell assets at a loss or borrow money at high interest rates to meet its obligations. This can lead to a decline in the bank's financial health and potentially even insolvency. In addition, bank runs can create a ripple effect throughout the financial system, as other banks and financial institutions may become reluctant to lend to each other, leading to a broader credit crunch and economic instability. To prevent bank runs, governments and central banks often have measures in place, such as deposit insurance (FDIC) and lender of last resort facilities (US Federal Reserve Discount Window), to provide support to banks in times of crisis.When the FDIC fund runs low or is exhausted the US Government will set up a back up plan. In fact, last night, Sunday, the Fed and FDIC announced the new Bank Term Funding Program (BTFP) which will provide liquidity to banks by providing liquidity on their underwater bond investments.