The fall of the Silicon Valley Bank came as a surprise to many. The Silicon Valley Bank is a 40-year-old bank in California that most venture-backed startups use. At its insolvency, it had about $209 billion in assets and was the . 16th largest bank in the United States SVB is strong in the startup scene, and there are claims that it banked at least half of the US’s venture-backed startups. They lured startups by offering attractive loans in return for these startups, using them as an exclusive bank. They had strong relationships with founders and VCs and offered them incentives such as attractive mortgage deals. As is the policy, every bank must be insured. SVB was FDIC insured, but FDIC insurance only protects accounts that hold up to $250K. This did not work well for SVB as over 85% of the accounts had over $250K. SVB saw as there was a spike in the number of deposits from 61 billion at the end of 2019 to 189 billion at the end of 2021. massive growth The increase in liquidity is due to fundraising avenues and different activities such as IPOs, venture capital investments, acquisitions, etc. That means SVB had many assets they needed to generate a return on. To generate a return while still investing in relatively safe assets, they decided to buy longer-dated securities such as treasury bonds and mortgage-backed securities. Unfortunately, this buying took place when rates were near record lows. By the end of 2022, SVB had over $120 billion in these securities versus only $74 billion in loans. When the FED increased interest rates, it affected the VC landscape last year. There was less funding going to startups as the VC’s found it better to invest in bonds and government securities. This made deposits going to SVB decrease. This began a crisis as SVB had invested in long-term assets. SVB did not have interest rate hedges or proper risk management. Losses started piling up, and at the end of 2022, SVB had marked market losses on those securities over $15 billion, almost equivalent to its entire equity base of $16.2B. That means that if depositors want their money back, they will not have money. They decided to compensate by making a share sale. When the news of the share sale went out, the stocks plunged. VCs then advised their companies to withdraw their funds from SVB. The startups and founders were in a scramble to withdraw funds. Effect on Crypto SVB collapse impacted Circle as Circle used them to bank the USDC stablecoin. is a fiat-backed stablecoin with an equivalent to the dollar. There were fears that it would fall off the hook. Circle announced that it has 3 billion out of its 40 billion reserves, about 8% of the amount. UDSC A bank run? There were fears that the SVB situation would lead to a bank run, as many banks have similar structures. There are many losses from fixed-income securities, which would affect their liquidity. For fear of a bank run, many started pulling funds from their accounts as no one was sure how fragile the US banking system was. The FDIC covers only 1.3% of their deposits, while the banking system has a total of $22 trillion. That means there were high chances of a bank run. There are up to 65000 startups affected by SVB. If they cannot access funds, it may halt their operations, such as payrolls, making employees quit. Unfortunately, bank runs do not discriminate on who the account holders are, and it may affect up to regional banks. Increased interest rates have affected liquidity, leading to losses in bank balance sheets. What does the future hold? To rescue the situation, the FDIC and FED revealed working on a fund that will backstop deposits. The treasury Federal Reserve and the FDIC announced that they would be backstopping all the deposits at SVB so that customers could access their funds. This restored banking confidence and also helped Circle to recover. That was a brilliant move by the US government as there would be a wide-scale banking crisis. The SVB crisis indicates that the fractional Reserve banking system is structurally unstable. Also published here.

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Examining the Risk of a Banking Crisis in the United States

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Examining the Risk of a Banking Crisis in the United States

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Mehran Muslimi

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DYOR

About Author

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