The Collapse of Silicon Valley Bank

Michael Nasca

April 11, 2023

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min

The collapse of Silicon Valley Bank (SVB) sent shockwaves through the financial world and the tech industry. SVB benefited from the influx of capital in the tech industry, but its quest for higher returns led to investment in long-term U.S. Treasury bonds. When interest rates started to rise, depositors demanded higher returns, and the bank was forced to sell some of those bonds at a loss. The news spread through social media, causing a panic among tech investors and triggering a classic bank run. Within 36 hours, the U.S. experienced the second-biggest bank failure in its history.

Reimbursement Beyond the Insurance Limit: A Potential Issue for the Future of U.S. Banking

The government has since provided full reimbursement to all depositors at Silicon Valley Bank, including those who had deposits exceeding the $250,000 limit for Federal Deposit Insurance. While this news is undoubtedly a relief for those affected, it raises a potential issue for the future of U.S. banking. By bailing out depositors beyond the insurance limit, there is now a concern that the government may continue to do so in the future, creating a moral hazard problem. Investors may become more inclined to invest in banks that offer the highest returns, assuming that they will be reimbursed by the government in the event of a bank failure. This could lead to risky behavior by banks, as well as greater instability in the financial system.

The Need for Stricter Regulations and Greater Oversight

The downfall of SVB raises concerns about bank oversight and the need for stricter regulations. The chain reaction set off by the bank's failure prompted a push for greater scrutiny of banks that are not large enough to be deemed globally systemic but can still cause problems in the U.S. banking system. The Federal Reserve could consider implementing tighter rules for banks, such as a requirement to hold more capital when the market price of their bond holdings drops. While such a tweak would most likely require a phase-in period since it would be a substantial change, the collapse of SVB highlights the need to ensure that banks are adequately regulated and that their practices do not put the broader financial system at risk.

Learning from the Lessons of SVB's Collapse

The collapse of Silicon Valley Bank is a cautionary tale of the potential risks associated with risky lending practices, lax risk management, and an over-reliance on short-term funding sources. As a result of SVB's failure, there is a growing demand for greater oversight and regulation of banks, particularly those that have the potential to cause problems in the U.S. banking system but are not large enough to be deemed globally systemic. The government's decision to reimburse all depositors, including those beyond the insurance limit, has raised concerns about moral hazard and the possibility of investors engaging in risky behavior. It is crucial that we learn from SVB's collapse, and ensure that banks are appropriately regulated and that their practices do not endanger the broader financial system. Ultimately, this experience must pave the way for a more stable financial system in the future.