March 13, 2023
BU Today recently published a question and answer session with Mark Williams, Master Lecturer of Finance, reacting to the collapse of Silicon Valley Bank and what’s next.
In response to the question of whether this could lead to a financial crisis, Williams discussed the concern over the sudden bank run and collapses within 48 hours. Unless quelled, bank runs can spread like wildfire, crippling even the soundest of institutions. It is for this reason that President Biden spoke before the markets opened on Monday. The goal was to eliminate concerns among depositors. According to Williams, the big difference between the 2008 financial meltdown and the collapse of SVB was that banks failed in 2008 because of bad loans and poor credit management. Over 600 banks failed by the end of the Great Recession. The current banking crisis is the result of bad risk management practices around deposit management and interest rates. Banks that failed concentrated on risky, concentrated customer segments, quickly grew deposits, converted these funds into loans and bonds when interest rates were low, and assumed that interest rates would not rise quickly. In 2022 as inflation rose, interest rates skyrocketed and these longer-term loans and bonds lost market value. Williams explained that the Achilles’ heel was that these banks never thought their concentrated customer base would ever fall on hard times or as depositors stampede for the door. It was also as if they took it as fact that depositors would always keep their monies at the bank, even if in excess of FDIC insurance limits.
To prevent banks from engaging in excessive risk-taking, the 2008 financial crisis demonstrated the need for stronger regulation. Adding additional government lending to banks to buffer against future bank runs is a helpful first step by the Biden administration, Williams stated. He suggested that hearings to better understand why these banks failed so rapidly will also help in developing future preventative measures. Most importantly, he added, is that the president made it clear that stronger bank regulation over risky behavior would be put in place, sealing up some of the holes in the Dodd-Frank Act. As an additional reform idea, Williams suggested that banks should be required to maintain greater capital levels, not just based on the amount of credit risk, but also on the amount of interest rate risk they are willing to take.