Silicon Valley Bank may be the start of something grimmer
These events raise profound questions about America’s banking system. Post-financial-crisis regulations were supposed to have stuffed banks with capital, pumped up their cash buffers and limited the risks they were able to take. The Fed was meant to have the tools it needed to ensure that solvent institutions remained in business. Critically, it is a lender of last resort, able to swap cash for good collateral at a penalty rate in its “discount window”.
The exercise becomes more alarming still when other assets are adjusted for higher rates, as Erica Jiang of the University of Southern California and co-authors have done. There is, for instance, no real economic difference between a ten-year bond with a 2% coupon and a ten-year loan with a fixed 2% interest rate. If the value of the bond has fallen by 15% so has the value of the loan. Some assets will be floating-rate loans, where the rate rises with market rates.
How many banks have loaded up on securities, or made lots of fixed-rate loans, and are uncomfortably exposed to flighty deposits? Insured deposits are the stickiest because they are protected if things go wrong. So Ms Jiang and co-authors looked at uninsured cash. They found that if half of such deposits were to be withdrawn, the remaining assets and equity of 190 American banks would not be enough to cover the rest of their deposits. These banks currently hold $300bn in insured deposits.
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