Silicon Valley Bank is not Lehman Brothers – 03/14/2023 – Paul Krugman
If there is one thing that almost all observers of the economic landscape agree on, it is that the problems facing the US economy in 2023 are very different from those of its last crisis, in 2008.
Back then, we were dealing with collapsing banks and falling demand; today, the banking sector has been a secondary issue and the big problem seems to be inflation, driven by excessive demand relative to available supply.
Ah, there were some echoes of past follies, because there always are. The hype is eternal; The crypto cult has some obvious features in common with the rise and fall of subprime mortgages, with people drawn into complex financial schemes they don’t understand. But no one expected a repeat of those frightening weeks when the bottom of the world’s financial system seemed to be collapsing.
However, it suddenly feels like we’re revisiting some old footage. Silicon Valley Bank wasn’t one of the biggest financial institutions in the country, but neither was Lehman Brothers in 2008. And no one who paid attention in 2008 can help but get goosebumps watching an old-fashioned bank run.
But SVB is not Lehman and 2023 is not 2008. We are probably not facing a systemic financial crisis. While the government has stepped in to stabilize the situation, taxpayers are unlikely to lose large sums of money.
To understand what happened, you need to understand the reality of what SVB was and what it did.
Silicon Valley Bank billed itself as “the bank of the global innovation economy,” which might lead one to think that it invested primarily in highly speculative technology projects. In reality, though, although he provided financial services to startups, he didn’t lend them a lot of money, as they were often flush with venture capital cash. Instead, the money flow went in the opposite direction, with tech companies depositing large sums of money into SVB – sometimes in exchange for favors, but mostly, I suspect, because people in the tech world thought of SVB as “their ” type of bank.
The bank, in turn, parked much of that money in boring, extremely safe assets, mostly long-term bonds issued by the US government and government-backed agencies. It made money, for a while, because in a world of low interest rates, long-term bonds typically pay higher interest rates than short-term assets, including bank deposits.
But SVB’s strategy was subject to two major risks.
First, what would happen if and when short-term interest rates rose? (They couldn’t fall significantly, because they were already extremely low.) The spread on which SVB’s profits depended would disappear — and if long-term interest rates also drove up the market value of SVB’s bonds, which paid lower interest than the new bonds, would fall, creating large capital losses. And that, of course, is exactly what happened when the Fed raised rates to fight inflation.
Second, although the value of bank deposits is insured by the federal government, this insurance is only up to $250,000. SVB, however, got its deposits mostly from business customers with multimillion-dollar accounts – at least one customer (a crypto company, of course) had $3.3 billion in SVB. As SVB’s customers were effectively uninsured, the bank was vulnerable to a bank run, when everyone rushes to withdraw money while there is still some left.
Then came the race. And now?
Even if the government had done nothing, the fall of the SVB would probably not have major economic repercussions. In 2008, there were liquidations of entire asset classes, especially mortgage-backed securities; since SVB’s investments were so boring, similar consequences would be unlikely. The main damage would come from business disruption as companies were unable to withdraw their money, which would be worse if the SVB’s slump caused runs on other mid-sized banks.
That said, for precautionary reasons, the authorities felt – understandably – that they needed to find a way to insure all SVB deposits.
It is important to note that this is not meant to bail out the shareholders: the SVB was confiscated by the government and its equity wiped out. That means saving some companies from the consequences of their own foolishness in putting so much money in a single bank, which is annoying — especially since so many tech figures were outspoken libertarians until they needed a bailout.
Indeed, none of this likely would have happened if the SVB and others in the industry had not successfully lobbied the Trump administration and Congress for a relaxation of banking regulations, a move rightly condemned at the time by Lael Brainard, who has just become the chief economist of the Biden administration.
The good news is that taxpayers probably won’t lose much, if any, money. It is unclear whether SVB was actually insolvent; what it failed to do was raise enough cash to deal with a sudden exodus of depositors. Once things stabilize, your assets will likely be worth enough, or nearly so, to pay off depositors without an infusion of additional funds.
Then we can return to our regular crisis programming.
Translated by Luiz Roberto M. Gonçalves
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