Bank Runs Are Terrible
There’s a better way to ensure lenders can always pay their depositors.
Such events can and should be a thing of the past, but this will require significant changes in the way the Federal Reserve backstops the banking system.
Some of the weaknesses revealed in last year’s demise of Silicon Valley Bank can be addressed within the existing regulatory regime.
The threat of bank runs, however, remains a big problem.
The SVB debacle demonstrated that in the age of banking apps and social media, uninsured deposits can flee at an extremely fast pace — far faster that what’s assumed in the prevailing liquidity rules, which are supposed to ensure that banks have enough cash on hand to survive 30 days of worst-case withdrawals.
There’s a better way.
The Fed already backstops banks, standing ready to provide emergency loans against good collateral. To improve this “lender of last resort” function, it should require banks to pledge in advance enough collateral to cover all of their runnable liabilities (including uninsured deposits and other debts coming due in less than one year).
The collateral would be valued at market prices, with a buffer to protect the Fed against losses.
— as shown in a new Group of Thirty report that I co-authored.
Bank Failures and Contagion: Lender of Last Resort, Liquidity, and Risk Management
AUTHOR(S): G30 Working Group on the 2023 Banking Crisis 2024
Bill Dudley Bloomberg 10 januari 2024
The SVB debacle illustrated three key weaknesses of modern-day banking.
First, in an era of online transactions and social media, runs can happen with unprecedented speed.
Second, uninsured depositors aren’t a reliable source of market discipline: They have just two modes, complete inattention or total panic.
Third, authorities lack adequate tools to prevent panic.
What’s needed is a backstop that creates the proper incentives for banks to manage risk. With this in mind, I would propose an expansion of the Federal Reserve’s lender-of-last-resort function (along the lines of a mechanism proposed by Mervyn King, who headed the Bank of England during the 2008 financial crisis).
Bill Dudley Bloomberg 5 juli 2023
As so often with analysis of this sort, King is good at articulating what’s wrong with the global economy, not so good when it comes to solutions.
Money, Banking and the Future of the Global Economy, by Mervyn King.
Lord Mervyn King, former governor of the Bank of England.
His book is called The End of Alchemy.
The alchemy is “the belief that money kept in banks can be taken out whenever depositors ask for it”, Wolf
The Only Way to Stop Bank Runs Is to Get Rid of Banks
It has been one of the ideas often proposed since the 2008 financial crisis, under the name of narrow banking. It’s a idea I don’t buy, as I’ll explain.
Englund: The Only Way to Stop Bank Runs Is to Get Rid of Banks (englundmacro.blogspot.com)
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