SVB Collapse; How India Handled PMC Bank Aftermath

It has been 5 days since the news of the collapse of SVB, and Silicon Valley Bank came out triggering panic in global markets. The fears of 2008 like the Bank collapse started taking root. and the reasons were such. Headquartered in Santa Clara, California, the bank was a go-to for tech start-ups not only in silicon valley but also in Europe and In India. On Friday Morning, the bank was taken over by federal regulators with deposits of hundreds and thousands locked in. This was the biggest banking failure in the US since Washington Mutual in 2008.

So how did Silicon Valley Bank Collapse? Who is affected by it? and most importantly what’s the plan to safeguard the depositor’s money? And what lesson can we learn from this? Let’s understand this in this article.

On 7th March, Silicon Valley Bank tweeted, “Proud to be on @Forbes’ annual ranking of America’s Best Banks, On 10th March, just three days later, the bank was shut down and taken over by the Federal Regulator. With an asset base of $209 Billion, this was the biggest bank to fail after the 2008 financial crisis that ripped through the markets. The Global Markets took a beating of this collapse too. European equity markets ended sharply lower whereas Asian markets were affected too. Why did it happen? what went wrong with SVB? Before getting into that, let’s understand a little bit about SVB

What is SVB?

Silicon Valley Bank, a subsidiary of Silicon valley Finances, was founded in 1983. It is headquartered in Santa Clara, California, the Silicon Valley, at the heart of the startup world. It was started by former Bank of America managers to focus on the needs of startup companies with just 100 initial investors. Soon the bank became the darling of the startup sector. It was a go-to bank for tech, gaming startups, and the health industry. It also manages the funds of Venture capitalists and HNI founders. Much of their money was parked in SVB. Over the last 4 decades, SVB had become the 16th largest bank in the US with an asset base of over 200 Billion dollars.

How Did the Bank Collapse?

Well, the bank suffered from what is called the Classic Case of a Bank Run. A bank run occurs when a large number of customers of a bank or other financial institution withdraw their deposits simultaneously over concerns about the bank’s solvency. As more people withdraw their funds, the probability of default increases, prompting more people to withdraw their deposits. In extreme cases, the bank’s reserves may not be sufficient to cover the withdrawals.

This is exactly what happened to SVB. In fact, two days before the collapse, the bank had tried to persuade the depositors not to panic and withdraw deposits from the bank. But the requests didn’t really help.

But how did the bank get to this point where the customers started withdrawing money in panic mode?

For that, we have to deep dive into how banks do business. Banks perform two primary tasks: Deposits and Lending. We put our savings in banks, the banks give a certain percentage of interest on the m, one deposited.

But how does a bank do that? It does that by lending our money to those who need it at a higher interest rate.

When they pay EMI or return the money, the bank earns money. Usually, the difference between the interest on saving and interest on lending is the profit of the bank. But apart from this, banks invest your money too to earn handsome returns.

With the VC money pumping in, several startups chose to park their money with Silicon Valley banks. During the pandemic years, as the tech startups became the VC favorite bet, the bank’s deposits rose.

Between 2020 and 2022, SVB’s deposits soared 3 times — from $62 billion to $190 billion. Flush with cash from high-flying startups, Silicon Valley Bank bought huge amounts of bonds more than a year ago. This was the time when the US Central Bank slashed interest rates. The SVB invested in long-term bonds like real estate securities.

But come 2023, the Federal bank began to raise the interest rate to bring inflation under control and that’s when things started going downhill for the bank. The value of its long-term bonds started to erode.

On the other hand, As the funding winter came, the VC money pumping into start-ups started to run dry, so they began to dig into their savings to meet their capital needs. As a result, SVB customers began to withdraw money.

To pay those requests, Silicon Valley Bank (SVB) was forced to sell off some of its investments at a time when their value had declined. They sold it at a loss. In its surprise disclosure last Wednesday, the bank said it had lost nearly $2 billion.

However, the disclosure had a sort of domino effect. On Wednesday, according to reports a fund run by leading VC Peter Thiel asked to withdraw money from SVB. The bank then clarified that it had sold some of its bonds to get the money. But panic had spread. California startups started pulling money out of the bank. On march 10th, SVB was declared bankrupt.

What Was the Policy Decision?

The California Department of Financial Protection and Innovation shut down Silicon Valley Bank and appointed the Federal Deposit Insurance Corp. as the receiver. The FDIC created a new bank, the National Bank of Santa Clara, to hold the deposits and other assets. The deposits were frozen for the weekend. Initially, more panic spread as there were reports that the bank will open operations on Monday but only the insured deposits can be accessed. The issue was at least 89% of the deposits in the bank were uninsured.

How US Govt Saved SVB and depositors?

As the SVB collapse hit the news, no less than 72 hours later US Govt moved quickly and deployed an emergency plan. And that is where a lesson lies. The Biden administration stepped in the matter with treasury dept officials announcing that not just those with insured deposits but all the customers will be able to access their deposits in the bank. In an extraordinary move, U.S. regulators classified Silicon Valley Bank as a systemic risk to the financial system, a designation that allows it to guarantee all deposits and not just the standard $250,000.

While the plan would not protect stock and bondholders. Depositors’ money will be paid out from a $100 billion government fund that banks pay fees into. The management was also removed with immediate effect. Similar measures were deployed for New York Based Signature bank which collapsed in two days of SVB collapse. In the 72 hours since SVB collapse all hands were on deck to allay the fears of the 2008 links meltdown and restore the confidence of depositors to avoid SVB-like situations in other banks.

Now compare it to how India Handled some of its banks collapses in the past. India witnesses three such major bank collapses in the past few years. Yes, Bank, Laxmi Vilas Bank, and Punjab and Maharashtra Cooperative Bank. Now I won’t go into why the banks collapsed, we have devoted a number of episodes of Business Tit-Bits, Editorials, and charchas to analyze that.

In almost all three cases, the measure taken by the govt included putting a strict moratorium and capping withdrawal limits by RBI.

In the case of PMC, depositors could only withdraw 1000 rupees per customer for initial six months. This capping was increased to 10000 and 40,000 later. But the money of several depositors was stuck who queued up outside the bank. According to a news click report from Jul 2020, since the PMC bank scam, as many as 70 depositors had died due to financial stress, as claimed by the depositors’ association, Recently, The Modi government announced that the branches of Punjab and Maharashtra Co-operative Bank will operate as Unity Small Finance Bank branches from January 25, 2022.

Shashank

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