Panic quickly spread to other regional lenders, such as First Republic, and upset markets globally, raising the prospect of even bigger and more widespread bank failures. Even a US$30 billion rescue of First Republic by its much larger peers, including JPMorgan Chase and Bank of America, failed to stem the growing unease.
If the Fed lifts interest rates more than markets expect – currently a 0.25 percentage point increase – it could prompt further anxiety. My research shows that interest rate changes have a much bigger effect on the stock market in bear markets (when there’s a prolonged decline in stock prices, as the US is experiencing now) than in good times.
MAKING THE SVB PROBLEM WORSE
What’s more, the Fed could make the problem that led to Silicon Valley Bank’s troubles even worse for other banks. That’s because the Fed is at least indirectly responsible for what happened.
Banks finance themselves mainly by taking in deposits. They then use those essentially short-term deposits to lend or make investments for longer terms at higher rates. But investing short-term deposits in longer-term securities – even ultra-safe US Treasuries – creates what is known as interest rate risk.
That is, when interest rates go up, as they did throughout 2022, the values of existing bonds drop. SVB was forced to sell US$21 billion worth of securities that lost value because of the Fed’s rate hikes at a loss of US$1.8 billion, sparking its crisis.
When SVB’s depositors got the wind of it and tried to withdraw US$42 billion on Mar 9 alone – a classic bank run – it was over. The bank simply couldn’t meet the demands.
