Silicon Valley Bank failed last week (2nd largest failure) after making poor investment decisions followed by improperly managing the problem, which scared their biggest customers to start a bank run.
The biggest problem was they bought too many low rate treasury bonds which tanked in value in the era of rising interest rates. Bonds that pay a lower interest rate drop in value when current rates rise since folks can get even higher paying bonds.
So the following questions about “bailouts” are springing out:
Should SVB be bailed out?
For shareholders and investors into that company, the answer is no. Investing comes with risks- and the 2008-2009 banking crisis and new regulations should have eliminated the “too big to fail” category of businesses.
Should SVB account holders that had over $250K be bailed out?
For depositors, the answer is FDIC insures $250K of money per account type (single, joint, 401K, etc…), and the rest is technically not insured, and here is where the problem really lies.
Back in 2008-2009 Great Recession when we were experiencing a tsunami of bank failures, people may have now forgotten that the original FDIC account limit was $100K, but the Fed raised it retroactively to $250K and made most depositors whole regardless of them having much more than $250K in their account, although this wasn’t widely broadcasted.
If the Fed didn’t ensure the account holders at SVB were safe, the fear would have spread and initiated many more bank runs which would have destroyed many banks along with the businesses that placed their deposits there that had accounts in excess of $250K. That would have resulted in another major financial crisis and great recession.
So yes, all deposit account holders should be protected to stop a domino financial collapse.
Moral Hazard Risk comes with Capitalism
Guaranteeing all banking accounts comes with major risks. A bank that knows all its accounts are fully protected by the Fed will be incentivized to take greater risks with their customer deposits, leading to even bigger failures down the road.
The solution is clear – proper regulation is needed to limit the risks the banks can take that lead to bank failures.
Unfortunately the prime directive of capitalism is to increase profits which puts it at odds with more regulations that lower profit potential.
Banking regulations were loosened in 2018 with legislation that allowed banks to take on more risk which helped bring on this result.
The cycle is big business wrecks the economy, then gets bailed out to prevent an economic meltdown with more stringent regulations put in place to prevent a repeat. Big business then lobbies government to relax or remove restrictions, allowing them to take more risks, which eventually results in business failures upon which they ask for more bailouts.
Capitalism will wind up destroying itself unless it’s properly regulated.
Soullfire 