In the wake of Silicon Valley Bank’s collapse earlier this month, another 186 banks are at risk of bankruptcy even if only half of their depositors decide to withdraw their funds, a new study found.
Indeed, the Federal Reserve’s aggressive interest rate hikes to curb inflation have eroded the value of bank assets such as government bonds and mortgage-backed securities.
“Recent declines in bank asset values have dramatically increased the vulnerability of the US banking system to runs by uninsured depositors,” the economists wrote in a recent paper published on the Social Science Research Network.
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A run on those banks could pose a potential risk even to insured depositors — those with $250,000 or less in the bank — as the FDIC’s deposit insurance fund begins to experience losses, the economists wrote.
Of course, this scenario will only play out if the government does nothing.
“Thus, our calculations suggest that these banks are certainly at potential risk of a run, absent further government intervention or recapitalization,” the economists wrote.
How did Silicon Valley Bank collapse?
In the case of the Santa Clara-based Silicon Valley Bank, which held most of its assets in US government bonds, the market value of its bonds fell when interest rates started to rise.
This is because most bonds pay a fixed interest rate which becomes more attractive if interest rates fall, driving up demand and the price of the bond.
However, when interest rates rise, the lower fixed interest rate paid by a bond is no longer attractive to investors.
The timing coincided with the financial difficulties many of the banks’ customers – mostly tech start-ups – were facing, forcing them to withdraw their deposits.
Additionally, Silicon Valley Bank held a disproportionate share of uninsured funding, with only 1% of banks having higher uninsured leverage, the paper noted. “Combined, losses and uninsured leverage provide run incentives for uninsured SVB depositors.”
Swapna Venugopal Ramaswamy is housing and economics correspondent for USA TODAY. You can follow her on Twitter @SwapnaVenugopal and sign up for our Daily Money newsletter here.