Last Friday in the United States, Silicon Valley Bank, a 30-year-old bank that specialized in financing start-ups in the field of information technology, collapsed because it could not cope with the withdrawal of liquidity caused by the panic.

Signature Bank, a New York-based financial institution with strong ties to companies involved in cryptocurrency assets, abruptly closed its doors over the weekend after regulators said its collapse could threaten the entire financial system. With a history of just over two decades, Signature Bank has focused on affluent clients and building personal relationships with them. For most of its history, it had offices only in the New York area.

Analysts say it is to some extent a victim of the panic surrounding Silicon Valley Bank. Now in the US, government agencies are taking emergency measures to support the financial system, and President Joe Biden is assuring Americans that the money they have in banks is safe.

Before the collapse, Silicon Valley Bank was the sixteenth largest bank in the United States and financed almost half of the companies engaged in information technology, but it began to fall last year after a difficult period for technology companies, which, especially in recent months, began to – liquidate their deposits, ostensibly to cover payroll and cloud funding needs.

This forced the bank to sell some of its long-term bonds at heavy losses, but the pace of withdrawals of working capital accelerated as word spread of some of its liquidity difficulties, as simple as the insolvent Silicon Valley Bank. The bank held billions of dollars in Treasuries and other bonds, which is typical of most banks because they are considered safe investments.

However, the value of the previously issued bonds began to decline because they yielded lower interest than similar bonds issued in today’s higher interest rate environment, and the Federal Reserve’s aggressive plan to raise interest rates to fight inflation exacerbated Silicon Valley Bank’s liquidity problems.

First, it would be moot if we look at how central banks thought they could revive the economy after the 2008 financial crisis, namely by buying financial assets, taking risks from commercial banks and flooding markets with cheap money while maintaining monetary policy of interest rates at an extremely low level, in some cases even in negative territory. Unexpectedly, the past few years have brought a series of unprecedented shocks, leading to record levels of inflation that central banks have been forced to counter by raising interest rates: the Covid-19 crisis, distorted supply chains, the energy crisis, the Ukraine war and food crisis, and the climate crisis .

But interest rates have been low for more than a decade, which explains why many institutional and retail investors have turned to other investments in their desire for better returns. Thus, the emergence of new asset classes, crypto-assets, has found a receptive environment among capital owners. Let’s not forget that as regulation has increased in mainstream markets, crypto-assets have grown unfettered and … unsupervised.

Both Silicon Valley Bank and Signature Bank had business and connections in this area. Ironically, the lessons of the 2008 crisis about lax standards in the market and the importance of regulation and oversight were poorly applied. No one had the willpower to bring order to the galaxy of financial supernovas that appeared and disappeared like crazy comets. The sharp fall or fluctuation in value, speculative nature and apparent lack of economic substance of most SVB and Signature Bank funded businesses will likely explain if the panic continues and the potential downgrade in the chain.

We will continue to monitor regulated financiers and those who have invested money in these institutions in good faith to use them as risk capital for better returns, incomparably better than … the safest investments in global markets. And perhaps this is the biggest irony.

In 2008, when bankruptcy knocked on the doors of the big banks, threatening to plunge the world’s financial system into an abyss of collapse, the disaster was triggered by their reckless investments in worthless mortgage bonds that they made in the subprime market. . However, this time the reason for the destruction and collapse of Silicon Valley Bank was its investment in what is unanimously considered the most reliable investment in the world’s financial markets – US Treasuries! A bitter lesson, how the inadequacy between the maturities of assets can lead to the insolvency of a seemingly solid bank within 48 hours.

Meanwhile, the US financial authorities announced a plan to support depositors of Silicon Valley Bank and Signature Bank (SVB), a key step to end a possible panic among other depositors over the recent bankruptcies. The Federal Reserve System, the U.S. Treasury Department and the Federal Deposit Insurance Corporation (FDIC) have decided to guarantee all deposits at Silicon Valley Bank, as well as at New York’s Signature Bank, which was closed on Sunday: they agreed to guarantee all deposits above the insured deposit limit in 250,000 US dollars.

The irony of this situation is that the decision is based on the fact that most of Silicon Valley Bank’s startup clients and those who had upfront venture capital to finance these entrepreneurs had much more than $250,000 in the bank. Thus, up to 95% of deposits at Silicon Valley and about 90% at Signature were uninsured. The loss is the prerogative of the risk to which the fund owners are exposed, but … it seems that the domino effect is more risky for the systemic economy than the absorption of the risk. Rather, it would be imposed to take the full shock at the expense of others.

And here comes a new irony: no matter how much they insist that taxpayers will not bear such a bailout, the FDIC, the Guaranty Fund are still fed by the banks, and they are taxpayers through fees and taxes (or so the moral would be). But these contributions are currently passed on through increased fees to business clients and consumers, who are, in turn, taxpayers. Why would this time be different? However, it is too early to know what will happen, especially since six other US regional banks have been placed under supervision. The promise that the taxpayers would not bear the cost of bailing out the banks has been disproved by history, that’s the only thing that can be said for sure.

This creates a vicious circle: both banks and consumers are less motivated to be careful with their money if they can plausibly assume that the government will step in and save them from any mistakes. And when such aid uses public funds to compensate for risky or bad financial decisions, it encourages riskier or worse decisions in the future and creates what is called moral hazard. Such a situation may lead to the appearance of additional rules and regulations that will be imposed on those who need it least in the current situation: ordinary consumers of depositors.

In contrast, for those who were professional investors and advanced large amounts of money to finance these risky technology joint ventures, no boundaries were drawn to warn them that these startups they were pouring money into mercilessly did not have the underlying assets. , which could be capitalized. in case of liquidation, and also did not have regularity in the production of income. They were taken at their word when they attributed the use of complex algorithms to the opacity of profit chains, even if it was designed (stupidly) to hide that they were sandcastles with pompous names.

Some, upon closer examination, have even compared them to pyramid schemes, which is another irony because, although similar stories were known, the lesson was not learned: all Ponzi schemes eventually collapse under their own weight, in their own obscurity.

As for Signature Bank, it was one of the few financial institutions that opened its doors to accept crypto-asset deposits, a business it entered in 2018… The SVB and Signature Bank collapses were the second and third largest in history, with Washington Mutual , which collapsed during the 2008 financial crisis, is still the number one financial disaster.

Another great irony lies in the technologies that underlie these banks’ operations, i.e., the opportunities that digitalization has brought. In the case of Silicon Valley Bank, it was the ease with which its customers could withdraw funds, and the speed with which word of Silicon Valley Bank’s imminent demise (both through digital channels) spread, that led to a lack of confidence in the bank’s viability. SVB, which also infected Signature Bank’s clientele.

But the streak of irony continues: SVB’s clients were some of the brightest capital managers: venture capital investors. Alongside them were many who claim to be driving the fintech revolution that could change the world with its highly sophisticated algorithms and analytics, typical of the bank’s customers. Their balances are now locked in a now insolvent bank because it misjudged the risk! Perhaps the risk management models and analytical capabilities they funded were not internally tested. Ironic, right?

If we consider the consequences that these crashes will have, I don’t think it’s realistic to say that the bleeding was stopped by the quick actions taken by the US authorities, in this case the FED and the FDIC, and not all the work to strengthen banking supervision after the 2008 global crisis year will really have the desired results. Conditions in the economy are very different from the last bank failures in 2008, when the recession was showing its fangs, deflation was gaining momentum, and the Fed was pumping money and injecting liquidity through decisions by US governors.

Even if the economy is still (still) doing well, with unacceptably high inflation, by injecting liquidity to save failing banks, inflation is fueled even more. Strangely, however, and here may be another irony of the current crisis, there are a large number of layoffs in the information technology industry itself, and for some reason it seems that there is no painless solution to the problem when the last bubble bursts. The global economy must once again prepare for tough times, because the advanced engine has also caught the flu. And the flu is contagious!

N. Ed: Kalu Monika is a lawyer specializing in consumer law with more than ten years of experience in this field. She specializes in the protection of the rights of consumers of financial services, and her area of ​​competence includes banking contracts, insurance contracts, regulation of the rights of consumers of financial services in national legislation and legislation of the European Union. He also holds a bachelor’s degree in economics. She is the founder and president of the United Consumers Association and a member of the Banking Stakeholder Group (BSG) of the European Banking Authority (EBA) and the Insurance and Reinsurance Stakeholder Group (IRSG) of the European Occupational Insurance and Pensions Authority (EIOPA). ), representing consumers. He is an independent member of the international public organization Finance Watch.