Two friends catching up over coffee got excited as their favourite Pink Floyd song from school days started playing in the background. Humming the chorus ‘run …run…run’, they got drawn into an interesting conversation.

Ram: This song makes me think of the term, ‘run on the bank’ I heard on TV a couple of weeks back. What exactly does it mean?

Veena: It refers to depositors lining up en masse to withdraw their money from the bank on fears that it is going down and they may lose their money.

Ram: Right thing to do, I guess, when there are doubts on safety of the bank?

Veena: Ideally yes, but there is also a conundrum to this. Even banks that are well-positioned can default if a large number of depositors attempt to withdraw at the same time. Thus, it can become a self-fulfilling prophecy.

Of course, the weaker banks will be the first in the line of fire. For example, after Credit Suisse was brought to the brink last week and a forced merger with UBS was announced, many in Switzerland, including the regulatory and government officials, were blaming the crisis in US banks for triggering its collapse. The US banking crisis led to accelerated withdrawals from Credit Suisse deposit accounts and if not for the merger over the weekend, it could have defaulted shortly and destabilised global financial flows.

Ram: So was it the same with Silicon Valley Bank (SVB) as well?

Veena: SVB had a solvency issue and the bank run triggered its collapse. Whether it could have survived in the absence of a bank run is anyone’s guess. However, the full deposit guarantee that US regulators gave post closure of the bank, if done earlier, could have made a difference.

Ram: Aren’t banks supposed to manage their liquidity well and be in a position to return my money when ever I want it back?

Veena: The business of banking works under the assumption that not everyone is going to ask their money to be returned at the same time. The money that you have deposited in a bank is invested to some extent in liquid instruments and majorly in illiquid instruments (mainly, loans given by banks). The liquid instruments, to some extent, can help meet any surge in deposit withdrawals. But if there is bank run, then their liquid instruments will not suffice and they may default in such a case, although their illiquid instruments are good and the bank is financially sound.

Around $42 billion, accounting for over one-fifth of SVB deposits, were withdrawn in a single day! Rarely can a bank be in position to meet so much of withdrawals. This bank run was unlike any other and is a lesson to bank managements as well as regulators.

Ram: How is it different and what is the lesson?

Veena: Unlike prior well-known episodes of bank runs, this happened in the digital era where depositors could cause a bank run using their mobile phone to withdraw money, instead of queuing up at the bank. So this bank run was faster than any in history! Some call it a Twitter-fuelled bank run!

Ram: Hmm…

Veena: So this calls for regulators and bank managements to be more proactive with a proper risk-management plan. For example, in 2008, after the collapse of Lehman Brothers and AIG that froze global financial markets, a rumour was propagated that ICICI Bank was having liquidity problem. Depositors lined up across branches and ATMs to withdraw deposits. Finally, it was a combination of proactive communication from management, regulator and the government over a few days that helped quell the fears.

Ram: So you are saying that if a similar rumour had surfaced today, it could have been different due to online withdrawals?

Veena: Could have been the case.

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