Understanding Silicon Valley Bank’s failure: what it means for your money

It’s never a good sign when “bank collapse” is trending on Twitter.

That was the case Monday as investors snatched up shares in First Republic Bank and Western Alliance Bancorporation, among several other local financial institutions. Apparently, they feared that those banks would suffer the same fate as that of the Federal Deposit Insurance Corp on Friday. acquired Silicon Valley Bank in Santa Clara, California, and state-closed Signature Bank in New York City on Sunday.

The rapid rise in interest rates has challenged banks in general and lowered the value of some of their safest assets. But banking experts say the circumstances that brought down Silicon Valley Bank and Signature Bank were so unique and that the federal government’s response on Monday was so aggressive that depositors could stay with other banks instead of going into crisis mode.

In addition, at least some of the naysayers on Twitter seemed keenly interested in a major meltdown. Some were conservative critics of the Biden administration, but others were businessmen eager for the government to protect their uninsured deposits (which the Fed eventually did).

Republican entrepreneur Vivek Ramaswamy (who is running a protracted presidential campaign) tweeted Sunday that venture capitalists and start-up executives who would lose their deposits with Silicon Valley Bank were “running each other to advance a story.” bank run on Monday if SVB savers are not encouraged by the government. They shout fire in the proverbial theatre, hoping everyone will run and knock over a candle on their way out – basically lighting a fire that might not have existed otherwise.

Here’s what you need to know about the latest developments and what could be the best course for you going forward.

Is my money safe with the bank?

No matter how resilient or vulnerable your bank is, for an overwhelming number of people the answer will be yes. That’s because federal insurance programs protect any money typical Californians have hidden in a bank or credit union.

For each depositor, the FDIC typically insures checks, savings, certificates of deposit and money market accounts totaling $250,000 with participating institutions. (The vast majority of banks are insured; you can check if your bank is insured by checking out this guide on FDIC.gov.) The FDIC limit applies to every bank you do business with. So if you have $250,000 with bank A, $150,000 with bank B, and $300,000 with bank C, all but $50,000 with bank C are automatically insured.

By comparison, according to the latest Federal Reserve survey (as of 2019), the median amount Americans have in banks is $5,300 per household. The average amount is $41,600. Therefore, the $250,000 FDIC figure is a target, not a constraint, for all but a small percentage of borrowers.

Credit unions have a similar insurance program from the National Credit Union Administration with the same $250,000 limit.

However, for companies with high payrolls, $250,000 can be a real problem. Friday’s government takeover of Silicon Valley Bank, which temporarily cut off customers’ access to their money and put more than $250,000 at risk, came just as some companies were looking to defray the cost of their bimonthly salaries. That is one of the reasons why the Biden administration announced on Sunday that it would waive the $250,000 limit and allow customers of the two bankrupt banks to access all of their deposited funds.

According to a joint statement from the Fed, the FDIC and the Treasury Department, the intention was to send a signal that would increase public confidence in the banking system and discourage further bank runs. And that message needs to make an impact, says Jeffrey Ball, CEO of Orange County Business Council and founder and former CEO of Friendly Hills Bank in Whittier.

Now, Ball said, companies no longer need to take preemptive steps with their deposits with other banks. “I think the precedent that has been set … should give you confidence that you can access your resources in the future,” Ball said.

Economist Joseph E. Gagnon, a senior fellow at the Peterson Institute for International Economics, was not so gifted. “If you have uninsured deposits, you may want to think about the health of your bank. But you probably feel like it’s less urgent now,” he said. “You probably think that this precedent set by the government will protect you. … [But] If you have unsecured deposits, you should definitely think about that.

Is this another bailout like the one from 2008/09?

At this point no.

Both banks have investments and other assets that may be substantial enough to support their depositors’ withdrawals. According to the FDIC, these savers should be the first to get back to health; If anything is left over, it goes first to secured creditors (i.e. companies that have not yet billed the bank for unpaid services), then to investors who bought the banks’ bonds, and finally to investors who own the banks’ bonds. ‘ part.

If the assets don’t generate enough money to cover all deposits, the FDIC must cover its costs by imposing a special levy on banks. As with any other insurance program, the banks that carry the insurance are the ones who pay for it.

Ultimately, it is the banks’ customers and investors who pay for the deposit insurance, not the taxpayer, through higher fees, lower interest payments and lower returns. However, that could be an indiscriminate distinction, Gagnon said. Almost everyone who is a taxpayer has a bank account, he said, and the cost of the latest bailout is “paid by almost everyone who has a bank account.”

Why did Silicon Valley Bank fail?

During the Great Recession, banks nearly went bankrupt as their investments in housing-related securities fell in value after the real estate market collapsed. This time, the problem was not risky investments, but a mismatch between long-term investments and depositors’ short-term claims.

Donald P. Johnson, executive vice chairman of American Business Bank, said SVB and Signature have fallen victim to a radically changed banking landscape. The Federal Reserve’s long-standing targets for low interest rates and weak economic growth have reduced demand for bank loans, leading banks to allocate more of their deposits to longer-term Treasury bills and municipal bonds in search of higher yields, he said.

When the Fed raised interest rates sharply last year to fight inflation, the value of these bonds fell. When Silicon Valley Bank had to sell some of those bonds to raise money, Johnson said it took a hefty loss, helping to depress the stock price and fueling concerns about the bank’s health.

That, in turn, caused a slew of tech companies with large accounts at the bank to rush to leave on Thursday — spurred in part by their venture capitalists — resulting in a whopping $42 billion in withdrawals on Thursday. Regulators then intervened, fearing that the bank would not be able to meet the immediate demand for cash.

Gagnon said he was surprised that Silicon Valley Bank’s auditors let the problem develop this way. “It’s a very clear risk they took,” he said, referring to the long-term investments. “It was a great part of their record. … I would be surprised if many other banks have this problem. It’s like Banking 101, don’t do too much of it.”

One possible explanation, he said, is the bank’s unusual reliance on depositors with large accounts. Depositors with relatively small accounts typically don’t withdraw their money and look for higher rates when interest rates rise, Gagnon said, so a mismatch between a bank’s long-term investments and short-term deposits isn’t a problem. But Silicon Valley Bank didn’t have the luxury of customers willing to stay at all costs.

The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, enacted in the aftermath of the subprime mortgage fiasco, required regulators to test banks with more than $50 billion in assets to determine whether they allow certain types of to withstand stress events, such as a sharp rise in interest rates. It’s the kind of test that would have exposed Silicon Valley Bank’s problems, Gagnon said. But Congress passed it, and President Trump signed legislation in 2018 raising the threshold to $250 billion, an amendment that exempted Silicon Valley Bank from the additional scrutiny.

The Fed said Monday it would review Silicon Valley Bank’s “oversight and regulation” “in light of its failure.”

When Silicon Valley Bank collapsed, Signature Bank experienced a similar series of customer withdrawals with large amounts of uninsured deposits. This bank also accepted cryptocurrency deposits, but it’s not clear what role that played in their troubles. One factor for both banks, Johnson said, was that they were expanding aggressively — too aggressively, he said.

Critics say both banks have failed to manage inflationary risks, which began long before the Fed hiked rates. Johnson agreed, but said the biggest problem is the public’s view of banks. “The perception of whether a bank is good or bad determines whether it makes it or not,” he said.