Silicon Valley Bank faced one of the oldest problems in banking. What will happen next?
NEW YORK – A financial institution best known for its relationships with major global technology startups and venture capital, Silicon Valley Bank, ran into one of banking’s oldest problems — bank runs — which led to Friday’s crash.
Its downfall was the biggest collapse of a financial institution since Washington Mutual collapsed at the height of the financial crisis more than a decade ago. And it had an immediate effect. Some startups with ties to the bank struggled to pay their workers and feared they might have to suspend projects, lay off or lay off employees until they could access their funds.
How did it happen? Here’s what you need to know about why the bank failed, who was hurt the most, and what you need to know about how it may or may not affect the US banking system.
Why did the Silicon Valley bank fail?
Silicon Valley Bank has been hit hard by the fall in tech stocks over the past year, as well as by the Federal Reserve an aggressive plan increase interest rates to fight inflation.
Over the past couple of years, the bank has bought billions of dollars worth of bonds, using customer deposits as a normal bank would normally do. These investments are generally safe, but the value of these investments has declined because they paid lower interest rates than what a comparable bond would have paid if it had been issued in today’s higher interest rate environment.
This is usually not a problem because banks hold them for a long time – unless they have to sell them in an emergency.
But Silicon Valley’s customers have mostly been startups and other technology-focused companies that have become more in need of money over the past year. As venture capital funding dwindled, companies were unable to raise additional rounds of financing for unprofitable ventures, so they had to tap into their existing funds—often transferred to a Silicon Valley bank that was at the heart of the tech startup universe.
So Silicon Valley customers started withdrawing their deposits. Initially, this was not a major problem, but after the withdrawal, the bank had to start selling its own assets to meet customer demands. Since Silicon Valley’s customers were mostly businessmen and wealthy people, they were likely more afraid of a bank failure since their deposits exceeded $250,000, which is the government-mandated deposit insurance limit.
This required the sale of normally safe bonds at losses, and these losses drove the Silicon Valley bank to the point where it was effectively insolvent. The bank tried to raise additional capital through external investors, but could not find them.
A trendy, tech-focused bank was brought down by the oldest problem in banking: the good old bank run. Banking regulators had no choice but to seize Silicon Valley Bank’s assets to protect the assets and deposits that still remained at the bank.
What will happen next?
Two big problems remain with Silicon Valley Bank, but both could lead to further problems if not addressed quickly.
The most pressing issue is Silicon Valley Bank’s large deposits. The federal government insures deposits up to $250,000, but anything over that level is considered uninsured. The Federal Deposit Insurance Corporation said the insured deposits would be available Monday morning. However, the vast majority of Silicon Valley Bank’s deposits were uninsured, which is a unique characteristic of the bank because its customers are primarily startups and high-net-worth technology workers.
At the moment, all this money is not available and will probably have to be released in order. But many businesses can’t afford to wait weeks to access funds to cover payroll and office expenses. This could lead to furloughs or layoffs.
Second, there is no buyer for Silicon Valley Bank. Normally, bank regulators look for a stronger bank to accept the bankrupt’s assets, but in this case the other bank did not step forward. A bank buying Silicon Valley Bank could go a long way toward solving some of the money problems that startups can’t get to right now.
Is this a sign that we may have a repeat of 2008?
At the moment, no, and experts do not wait there may not be any problems that spill over into the wider banking sector.
Silicon Valley Bank was big but had a unique existence, catering almost exclusively to the tech and venture capital world. He did a great job with the part of the economy that was suffered greatly last year.
Other banks are much more diversified across industries, customer bases and regions. The Federal Reserve’s latest round of “stress tests” of the largest banks and financial institutions showed that they would all survive a deep recession and a significant drop in unemployment.
However, there could be economic knock-on effects in the Bay Area and the tech startup world if the remaining cash can’t be released quickly.