Their failures have shown that banking operations are not ‘risk-free’ despite policies and regulations. The biggest take away from the series of banking failures is that the maintenance of ‘cash’ is essential for banking operation. The US government and the Federal Reserve (Fed) had to step in with resolutions in order to avert bankruptcy process, instead of selling them to a competitor. These banks were facing liquidity risk by failing to meet the demands for deposit withdrawals. Due to its concentration on a particular outcome of market, SVB was heavily exposed to the downturn in tech industry.

The banks also suffered from long-standing interest rate risks coupled with future expectations. The current interest rates continue to rise while global economy is expected to slow down putting the banking system under duress. Economists have argued that the crisis is not enough to trigger a recession but it may not be over.

Systemic risk is an important concept in understanding financial stability. It refers to financial market risk that could threaten financial stability. The US Federal Deposit Insurance Corporation (FDIC) applied a systemic risk exception to least-cost resolution (LRC), which means resolving/repaying claims of depositors in a least costly manner to FDIC and taxpayers, securing the uninsured deposits up to $250,000. Similarly, it is up to 100,000 euros in European countries and 100,000 Swiss francs in Switzerland. Both SVB and Signature reported large uninsured deposits of $151.6 billion and $79.5 billion respectively. It was to counter bank runs from spreading to the entire banking system. It guaranteed the uninsured depositors (not their leadership and shareholders) and further created positive future assessments.

The large banks carry the weight of “too big to fail” (TBTF) concerns that could rock financial stability which could destabilize the global financial system, thereby, requiring systemic risk exception. The government’s concerns in this crisis remained focus on bailouts to secure uninsured depositors.

The crisis brought back the issue of regulatory protection of big banks with enhanced prudential regulatory requirements (EPR). However, the SVB fell into a category that allowed exemption from stringent EPR requirements for bank holding company (BHC) with assets worth in the range of $100-250 billion, while Signature was not subjected to EPR at all since it was not a BHC. SVB and Signature banks were the 16th and 29th largest banks in the U.S. with total assets of $209 billion and $110.4 billion respectively as of year-end 2022. Surprisingly, there were no bank failures in 2022. Given the assets reported, both banks could not have been in the FDIC’s ‘Problem Bank List’ for the 3rd quarter. In terms of vulnerability, regional bank was better than SVB, which was going through losses and share of deposits.

Financial stability measure adopted in Switzerland for Credit Suisse was the acquisition of Credit Suisse by UBS, the largest bank in the non-EU country. Further, the US Fed and the Swiss National Bank increased interest rates after the closure of the SVB and Credit Suisse merger respectively.

A comparison of banking systems between the US and European banks can be made here. In the US, small banks with balance sheet below $250 billion are exempted from following Bank for International Settlements’ (BIS) Basel III guidelines, which strengthen oversight of risk management of banks. However, they are applicable to most of European banks, which have seen tightening of controls since the 2008 Global Financial Crisis. It is thus credited for the resilience shown by the European banking system compared to its US counterpart. Liquidity ratios, i.e., liquidity coverage ratio at 150% for European banks is higher than 120% for US large banks, according to Veronika Roharova of Credit Suisse.

The Congressional Research Service Report states that TBTF associated with systemic risk exception could create an imbalance in the banking system due to the generated perception of customers for a safer banking at large banks posing a competitive disadvantage to small banks. Further, stricter banking regulations could make non-bank financial institutions (NBFIs) more attractive. In addition to this, the crypto companies, if less regulated, could hit hard these traditional banks. Digital banking, which opens up for easier and quicker withdrawals, needs regulatory checks. In this crisis, the bail-out packages and loans could ‘stem the financial market panic’.

Banking operations are based on privacy of information, for instance, the details of banks’ actions in order to avoid risks facing the banks prior to their failures. Such secrecy can produce debilitating effect to public confidence in and expectation on banks. Thus, it could incentivise uninsured customers to withdraw from a failing bank.

The crisis was controlled from further damaging the global financial market through prompt interventions like rescue packages and emergency deals from governments central banks. The banking crisis impacted less in emerging markets which saw less sale of bank-shares. Their banking system is strong. However, given the unpredictability of challenges to global financial market banks need to revisit their risk management practices.

This article is authored by Mehdi Hussain, doctoral candidate, Centre for South Asian Studies, Jawaharlal Nehru University.