Another American bank goes belly-up; why US and global economy have more to worry
By Team Newsable | First Published Mar 13, 2023, 8:44 AM ISTThe failure of the Silicon Valley Bank and now the Signature Bank should sound an alarm for both regulators as well as financial firms, says Barclays Vice President Shishu Ranjan
Days after Silicon Valley Bank's collapse, Federal officials have now shut down another bank and announced that they would bail out all depositors. In a statement, the Treasury, Federal Reserve and Federal Deposit Insurance Corporation (FDIC), the New York-based Signature Bank had been closed by its state chartering authority. The cryptocurrency industry reportedly preferred the bank.
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The government bodies have rolled out a scheme to protect investors' money at the two banks, ensuring that the US banking system continues to perform its vital roles of safeguarding deposits and providing access to credit to households and businesses in a manner that promotes strong and sustainable economic growth.
To recall, Silicon Valley Bank (SVB), the 15th largest bank in the United States, became the first large bank to close down since the 2008 financial crisis. The shutdown created panic in the market, especially in the banking sector. However, a closer look at the root cause of the problem that triggered the closure provides clarity that the impact is not expected to create a severe ripple effect, putting the entire financial market in danger.
Reason One
The SVB had a unique business model. SV Bank is a regional bank specialising in banking with venture capitalists and start-up firms. Thirty-nine per cent of its deposits are by technology and health sector start-ups. With the global economic slowdown since the onset of the Covid-19 pandemic, the funding for startups is on a decline, resulting in a liquidity crunch for these startups. As many of the startups are operationally loss-making entities, they needed to consume their deposit in order to keep their operation running, and that eroded the deposits of SVB, thereby creating a liquidity crisis which ultimately triggered the closure by the US financial regulators. Other large American banks have diversified sources of deposits and hence, do not carry such risk.
Reason Two
The SVB's exposure is of insignificant size when compared to total banking exposures in the US economy. The SVB's exposure is less than five per cent of JP Morgan and Chase, the largest US bank. The larger and big US Bank undergoes CCAR (Comprehensive Capital Analysis and Review) test conducted by Federal Reserve Bank. As per this test, big banks are examined for capital adequacy under severe stress scenarios so that the American banking system remains solvent and resilient.
Reason Three
Regulators have already taken swift action, and that is expected to ease the market nerve. Regulators have announced that the SVB has assets worth $209 billion against the deposit obligations of $175 billion, and therefore, all deposits will be honoured. This limited the impact of Bank closure. On top of that, regulators created a new bank, The National Bank of Santa Clara, that has taken over the SVB and hence, limits the default credit risk. This news helped contain the market risk as the banking stocks responded positively.
Also read: Why Silicon Valley Bank, one of the largest US banks, collapsed
However, the US and global economy have more to worry about as the current crisis has roots in several rounds of rate hikes by the Federal Reserve to contain inflation. Increased rates have hit the profitability of corporate borrowers, which were already feeling the heat due to the economic slowdown resulted out of the Covid-19 pandemic as well as the Russia-Ukraine war. Several rounds of rate hikes are sucking liquidity out of global markets, and that is hurting investment and growth opportunities. The SVB failure should sound an alarm for both regulators as well as financial firms.
The author is Vice President-Independent Validation Unit (Model Risk) at Barclays
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