Understanding the Bank Failures and Bailout
Snippets of perspective from experts. And it is a bailout, at least for wealthy depositors. Must be nice to have friends in high places.
Waking up our morning news on Monday, we were blessed with no shortage of “what happened” stories about bank failures, along with an alleged speech by President Joe Biden before he jetted off to California.
First of all, two banks were shuttered by government regulators. Silicon Valley Bank, a favorite of tech start-ups in California, and Signature Bank, a crypto-heavy institution on whose board sits one former Member of Congress, Barney Frank, former Chair of the House Banking and Financial Services Committee. Cozy!
Some explanations are better than others. I’m sharing the best three best perspectives I found this morning. They may not all agree, but they provide information not seen from the usual suspects (legacy media).
In a nutshell, as interest rates rose, Silicon Valley Bank was forced to sell assets like mortgage-backed securities at a loss to cover deposits, to meet capital requirements. When efforts to attract new investors failed, word spread through social media, and a run on bank deposits ensued. The bank quickly collapsed, and state and federal regulators began scurrying for a way to protect all depositors, worried about contagion throughout the banking system on Monday morning.
“SVB’s managers made a huge mistake by not hedging its assets’ interest-rate risk. But it's a mistake they were seduced into making by bad monetary policy that was too loose for too long,” says my friend Brian Wesbury, chief economist at First Trust Portfolios.
The 100,000 or so depositors with $250,000 or less at SVB have nothing to worry about. The Federal Deposit Insurance Corporation has you covered. But that’s not what the story is about. Banks pay for this “insurance.”
Federal regulators expect us to believe that the government now guaranteeing all deposits in these banks with the help of a hastily-assembled new loan program - even those exceeding the $250,000 FDIC insurance limit - is no taxpayer-funded bailout. Supposedly, bank investors and bondholders are out of luck. You should also know that the vast majority of funds deposited in these two banks - estimated at more than 80 percent - are uninsured. Or, were.
First, let’s start with the opening paragraphs of an excellent fellow Substacker Thomas Buckley post. Then, from DCJournal is an interview with GOP presidential candidate Vivek Ramaswamy, whom I featured in a post last week.
After indicating Sunday morning there would be no help forthcoming, the Federal Reserve announced early Sunday evening that those with funds in the recently-failed Silicon Valley Bank will not lose their money, even if their account contained more than the FDIC insured amount.
Citing a “systemic risk” exception, all funds in SVB (as well as New York’s Signature Bank, which also failed Sunday) are guaranteed to be available Monday morning.
“After receiving a recommendation from the boards of the FDIC and the Federal Reserve, and consulting with the President, Secretary Yellen approved actions enabling the FDIC to complete its resolution of Silicon Valley Bank, Santa Clara, California, in a manner that fully protects all depositors,” reads a press statement issued by the Federal Reserve Sunday afternoon. “Depositors will have access to all of their money starting Monday, March 13. No losses associated with the resolution of Silicon Valley Bank will be borne by the taxpayer.”
This announcement comes despite Treasury Secretary Janet Yellen saying on CBS’ “Face the Nation” broadcast Sunday morning that there was not going to be a bailout of SVB - https://www.cbsnews.com/video/yellen-rules-out-bailout-for-silicon-valley-bank-were-not-going-to-do-that-again/ . That statement was made about 8 hours before the joint Federal Reserve, FDIC, Treasury Department announcement of the depositor guarantees.
As to how the bailout will work, particularly with the additional guarantee that no tax money will be used, the statement read:
“The additional funding will be made available through the creation of a new Bank Term Funding Program (BTFP), offering loans of up to one year in length to banks, savings associations, credit unions, and other eligible depository institutions pledging U.S. Treasuries, agency debt and mortgage-backed securities, and other qualifying assets as collateral. These assets will be valued at par. The BTFP will be an additional source of liquidity against high-quality securities, eliminating an institution's need to quickly sell those securities in times of stress.
“With approval of the Treasury Secretary, the Department of the Treasury will make available up to $25 billion from the Exchange Stabilization Fund as a backstop for the BTFP. The Federal Reserve does not anticipate that it will be necessary to draw on these backstop funds.”
It is also expected that other solvent banks will forced to pay to help cover the bailout.
Read his entire post here:
DCJournal’s interview with Ramaswamy:
Biden administration officials announced Sunday night they were taking control of two banks, Silicon Valley Bank and Signature Bank, and guaranteeing all of their deposits, even those far above the FDIC $250,000 limit. It is a decision that critics say smacks of special treatment for the Wall Street and Silicon Valley elites, many of whom are financial backers of the Democratic Party.
DCJournal caught up with Vivek Ramaswamy soon after the news broke to talk about the Biden administration’s decision. Ramaswamy became a multimillionaire as the founder of a biotech company and now operates Strive Asset Management. He’s also a Republican candidate for president of the United States.
DCJOURNAL: Vivek, what’s the big picture for you when it comes to what’s happening with Silicon Valley Bank?
VIVEK RAMASWAMY: Crony capitalism is the big picture for me. I think everyone has to play by the same set of rules, but that is not how it works in America today.
I’ll just go through what happened. Silicon Valley Bank made some irresponsible decisions as to how it invested its deposits. A number of startups made irresponsible decisions, tech startups put too much money into Silicon Valley Bank.
Silicon Valley Bank then failed against conditions of rapidly rising interest rates, which were bad both for their depositors as well as bad for the actual securities that they held. So, it was a double whammy that resulted in a failure.
Now, here’s the reality: For years, they lobbied for a lower level of capital requirements and regulatory constraints because, they insisted, they were not a ‘systemically important’ bank. And yet, in their hour of need, what do they claim?
They claim they need a bailout at the public fisc, because they might create systemic risk. And I think that’s a shame. If you want to stop a bank run across the rest of the country, there are ways to do that other than actually stepping in to save the depositors of Silicon Valley Bank.
And here’s another dirty little secret: Many of those tech startups depositing at Silicon Valley Bank, they got private benefits like venture debt from the bank.
DCJ: What is venture debt?
VR: Silicon Valley Bank is among the very few institutions that actually provided venture debt. They would give you money, but it wouldn’t dilute your ownership in the company. It’s a form of debt. But most founders of startups can’t get that kind of debt from a more traditional bank, because a normal bank would never lend like that to a startup. Venture debt allows a venture capitalist and a startup founder to own more equity. So if it becomes a big success, they make even more money.
But here’s the thing: Taxpayers don’t get to participate in that. And so, why are they [the Biden administration] using taxpayer funds to subsidize these banks?
Now what they’ll say is they’re not using taxpayer funds because they’re just using the FDIC, deposit insurance that’s paid by banks, and as a technical matter, as a PR matter, they’re right.
DCJ: So, this isn’t a bailout?
VR: I think they did a great job of making this a ‘backstop’ story rather than a taxpayer bailout. But functionally, there’s no free lunch. Because of this action, our reserve is that much less well utilized than it should have been. And then there are the rules of the road. It’s a $250,000 maximum. If you don’t like the rules, great. Change the rules. I actually would’ve favored increasing that cap, but I would’ve done it prospectively, not retroactively after the fact when you’re picking your darlings as favorites.
Mark Rubenstein, author of the Substack site “Net Interest” makes this interesting observation in his highly informative post on the issue:
The problem at Silicon Valley Bank is compounded by its relatively concentrated customer base. In its niche, its customers all know each other. And Silicon Valley Bank doesn’t have that many of them. As at the end of 2022, it had 37,466 deposit customers, each holding in excess of $250,000 per account. Great for referrals when business is booming, such concentration can magnify a feedback loop when conditions reverse.
The $250,000 threshold is in fact highly relevant. It represents the limit for deposit insurance. In aggregate those customers with balances greater than this account for $157 billion of Silicon Valley Bank’s deposit base, holding an average of $4.2 million on account each. The bank does have another 106,420 customers whose accounts are fully insured but they only control $4.8 billion of deposits. Compared with more consumer-oriented banks, Silicon Valley’s deposit base skews very heavily towards uninsured deposits. Out of its total $173 billion deposits at end 2022, $152 billion are uninsured.
Read his entire post here:
What to watch for now? I’m no financial expert, so this is just an uneducated guess, but I’ll be looking for the new political pressure on the Federal Reserve to slow interest rate increases, despite persistent inflation. And despite the President’s call for tougher requirements for “smaller” banks, that’s unlikely to happen.