March 17, 2023 | OPINION | By Zoraiz Zafar

This past Friday, the American banking system suffered its sharpest blow since the 2008-09 financial crisis when Silicon Valley Bank, the nation’s 16th largest, failed and federal regulators took control of it. In the following days, another prominent commercial bank, Signature Bank, collapsed after facing a bank run on its deposits. As fears of yet another financial contagion rise, many regional and second-tier banks have seen their stock prices plummet.

Before we can debate the possible policy actions that the federal government may take, we must understand the gross mismanagement and underlying economics behind these collapses.

When COVID-19 and the subsequent lockdowns hit the global economy in March 2020, the federal government initiated the largest corporate welfare program in economic history. Aside from unchecked corporate bailouts doled out by the Federal Deposit Insurance Corporation, the Federal Reserve slashed interest rates to negative levels in real terms, a move that lowered yield rates on many asset classes across the economy.

Some banks, such as SVB, believed that low interest rates were here to stay and, therefore, proceeded to use them. What they did not account for was the inflationary impacts of the federal government’s spending spree and how we would, eventually, see interest rates being raised in the war against inflation. Once interest rates did rise, the value of SVB’s bonds diminished significantly as investors could just pick up bonds with higher yields.

Suddenly, SVB found itself with massive unrealized losses on the assets side of their balance sheet. In simpler terms, they were losing depositors’ money at a dangerously high rate and, if clients came calling for their deposits out of fear, SVB would not have sufficient cash reserves to meet their obligations. This is, in fact, a modern-day example of a classic bank run.

Upon realizing that SVB had significantly overvalued bonds on its balance sheet, investors panicked and started to withdraw their deposits in waves, leaving the bank scrambling to raise capital to honor all withdrawal requests. Once it became increasingly clear that SVB would not be able to meet its requests, federal regulators swooped in and placed it under the receivership of the Federal Deposit Insurance Corporation to prevent the financial plague from spreading further.

In the case of Signature Bank, the sharp reduction in the value of cryptocurrencies is to blame. Despite the numerous warranted concerns about crypto’s legitimacy and viability as currency, Signature Bank decided to accept deposits in it. When the crypto market crashed, the value of Signature Bank eroded and the once-healthy financial institution was left in a liquidity crunch that, ultimately, ended in disaster.

For two well-established banks with hundreds of billions of dollars in deposits, how can such levels of risk go unnoticed? Does greed have such a blinding effect that executives at such multi-national banks cannot see how they are proceeding further into the quicksand? These are the questions that our legislators should ask Wall Street officials instead of the FDIC providing them with the next corporate bailout at the expense of the Deposit Insurance Fund, which is funded by other banks.

Even in the 2008 Financial Crisis, it was high-risk strategies like these that acted as the catalysts for the ensuing chaos. Fifteen years down the road, it seems like Wall Street bigwigs have still not learned their lesson about deploying gambling antics in the financial system. Unfortunately for the American working class, Wall Street’s gambling addiction is wreaking havoc on those already reeling from the impacts of surging inflation levels. We can only hope that the federal government doesn’t make Main Street pay for Wall Street’s casino run.

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