Silicon Valley Bank exploded last Friday, leaving the kind of wreckage that is only possible when people in charge of a financial institution blow it epically. The bank’s customers, who were disproportionately tech-industry startups, were left to wonder over the weekend if their deposits had gone up in one of those tiny mushroom clouds. The situation was especially perilous because this kind of banking client—investor-funded companies—often has more in its bank accounts than the $250,000 that the Federal Deposit Insurance Corporation guarantees. Something like 85 or 95 percent of the bank’s customer deposits (analyses varied) were not federally insured. Maybe regulators could sell off enough of the bank’s assets to make depositors close to whole. Maybe not.
Entrepreneurs and investors spent the weekend going to bat for themselves in the marketplace of ideas. Many of them argued that the federal government needed to take emergency measures to protect the companies that had placed their money with SVB. Some of these advocates were unsympathetic figures: mega-rich investors in the types of companies that banked with SVB, who used their bully pulpit to paint a rescue of SVB’s clients as a populist cause rather than a self-serving one. Others were easier to root for, like the founder who built her company around a growing family and was scared she would lose it.
They all got more or less what they wanted. The Treasury Department, FDIC, and Federal Reserve announced as much before the weekend was out. The bank’s depositors were able to retrieve their money starting on Monday. The winding-down of the carcass of SVB will not endanger its customers’ ability to keep their lights on. That seems like good news. It might be less good if federal intervention, coupled with lax regulation, encourages more reckless bank behavior. There’s a complicated push and pull at play. The way in which some of the rescue effort’s public advocates were wrong is a lot simpler.
SVB died for reasons that map neatly onto the bank’s unique and chosen specialization. It billed itself as the financial institution for startups. That was a good idea in that nascent tech companies were flush with investor cash and needed someplace to put it, but it was a bad idea in that those companies had so much money that the most common historical method of making a banking profit—loaning money to customers and getting it back with interest—wasn’t much of a business of SVB (the company did do some small business loans, but many of clients got all the cash they needed from venture capitalists). Instead, looking for a return, SVB bought a lot of bonds when interest rates were low. Then inflation became a big thing, and the Federal Reserve raised interest rates, and suddenly SVB’s bond holdings were less valuable, because they were earning interest at lower rates than investors could get elsewhere.
Maybe SVB could’ve patched up its balance sheet over time, but it didn’t get that time, because it sold some of those depressed assets at a loss to get liquidity when depositors wanted their money back. Thus SVB’s paper losses became real losses, as customers started worrying about the bank’s solvency and started a run. That SVB catered specifically to tech companies aggravated the problem, because startup executives and their funders talk to each other, spread information quickly, and tend to act in unison, whether that means following each other in laying off employees or in pulling money out of a bank. Unable to pay its fleeing customers back, SVB went under. When the feds swept in, the remaining question was what would happen to all the deposits that weren’t insured.
It’s here that one of the widely deployed arguments for saving SVB’s customers starts to look ridiculous, even if actually saving them made a lot more sense.
Venture capitalist and Elon Musk buddy David Sacks argued that leaving SVB depositors to twist would undermine a huge swath of the American banking system. As Sacks framed it before U.S. financial authorities announced that depositors would get a backstop, the Federal Reserve was setting up a “two-tiered” banking system where only the most gigantic banks could merit the confidence of ordinary bank depositors. As he put it:
Imagine that the government had left SVB deposits up to fate. In that event, why would anyone bank anywhere other than JPMorgan, Bank of America, Citigroup, Wells Fargo, and the like? There’s an extremely simple answer, which I am qualified to give, because I am a reasonably normal American person with a bank account, not a venture capital-funded startup or midsize company.
All of my savings are with a digital bank that has no brick-and-mortar branches and that most people, I’m guessing, have never heard of. I have never spent a single second parsing my bank’s financial statements, and I picked my bank via a helpful series of articles about online banks on Bankrate.com. I bank with this institution because my savings account there earns me lots of interest, now more than 3.5 percent. That amount has gone up as the Fed has raised rates, but as long as I’ve been with my bank, it’s always been higher than the rates offered by the biggest banks. A similar savings account at Bank of America, as of Wednesday morning, would get me varying fractions of much less than 1 percent, depending on how much money I placed in the account. An account I have at a different bigger bank pays almost zero interest and charges me $7 a month when I don’t keep enough cash in the bank for its liking.
Smaller banks offer higher rates to be competitive with the much better known, richer Goliaths of the industry. They can do it because they run leaner businesses with lower costs. To answer Sacks’ question in the simplest terms possible: Even if SVB depositors were wiped out, someone might bank with the smaller banks to make more money.
That’s only half the answer to Sacks’ question about why anyone would bank with a nonhuge bank if SVB depositors had been allowed to lose their money. The other reason, somehow even more obvious, is that most of us are not well-funded companies and do not have more than $250,000 in cash in our bank accounts. (Sacks added the next day that he was only talking about “the uninsured portion of deposits,” which, to be clear, most people do not have.) I suppose it’s possible that my much smaller bank could face a run and fail. I did not lose sleep over it last night, because the FDIC’s insurance is enough (several times over) to cover everything in my savings account. If my business became so successful that I had more than $250,000 in liquid cash on hand, I would follow in the footsteps of two-time NBA MVP Giannis Antetokounmpo and open more bank accounts to get more insurance. Or I’d try any number of readily available strategies to expand my insurance.
It’s not that there would’ve been no consequences for letting SVB’s depositors lose everything. There would’ve been enormous consequences. An untold number of companies would’ve lacked money to make payroll and keep operating, at least in theory. People might have lost jobs en masse. Confidence in smaller banks might have waned significantly, and I don’t think that would be good for the national or global economy, even though most Americans who leave money with their banks would’ve had the U.S. government backing their money. The failure of a bank is a serious situation. The failure of this particular bank posed unique, specialized questions about the future of banking for a lot of businesses and individuals. It posed questions about other smallish banks, which might have been subject to their own runs if depositors got scared, FDIC insurance or not. These potential outcomes make it treacherous for someone with a huge platform, like Sacks, to overstate the already significant ramifications of SVB’s downfall. Bank runs are psychological creations, and exaggerating the dangers banks face—such as by lumping most of our banking needs with those of companies he or his cohort might invest in—can be self-fulfilling.
As it is, SVB revealed a dangerous situation, and it seems reasonable to have a legislative discussion about whether FDIC insurance should cover more dollars. Members of Congress have already started to have that talk, so it’s not just people like Sacks and billionaire investor Bill Ackman who think companies should get a bigger safety net. You and I, normal people, do not even need to have a position on the matter, just as we don’t need to intimately understand the economic situations of our own banks beyond knowing that they are FDIC-insured. It’s a great time to be a regular stiff with an account balance that doesn’t exceed $250,000.
