Will Americans Suffer the Cost of Bank Failures?

It seems you can’t swing a dead cat these days without seeing another story about the recent demise of Silicon Valley Bank (my apologies if I offended any cat lovers, it’s just a saying and no cats were harmed in the creation of this blog!). On Friday, March 10, federal regulators seized control of Silicon Valley Bank (SVB), citing "inadequate liquidity and insolvency" as too many depositors tried to withdraw their money at the same time in a bank run, triggering the biggest bank collapse since the 2008 financial crisis₁.

Established just 40 years ago, SVB had attracted startup founders and venture capitalists across the tech industry, and business was brisk even during the pandemic. But rising interest rates in recent months drained the bank's holdings, particularly its long-term bonds, which dropped in value when the rates went up. This created a run on withdrawals as clients panicked and rushed to access their money. 

Unfortunately, SVB was not alone in their woes. In fact, as of today, 5 US banks have failed in 2023. On March 12, 2023 we saw the failure of Signature Bank out of New York. First Republic Bank in San Francisco followed on May 1. The Heartland Tri-State Bank of Elkhart, Kansas, was next in July. And most recently, we saw Citizens Bank, of Sac City, Iowa suffer the ame fate₂. 

Before 2023, we hadn’t experienced a bank failure since 2020, during the Covid pandemic, so this might make you wonder just what in the heck is going on with these banks? And how can I possibly protect my money if even our banks can fail? 

But in fact, bank failures aren’t uncommon; a few typically happen each year. So it’s actually pretty rare for there to be years like 2022, 2021, 2018, as well as 2006 or 2005, when there were no banks closed. But this shows us exactly why it’s so important to have your money at an FDIC bank and make sure you’re within FDIC insurance limits and guidelines. No depositor has lost a penny of FDIC-insured funds since 1933.

It’s also important to note that deposit insurance doesn’t protect all financial products. Only certain ones such as checking accounts, savings accounts, money market accounts, certificates of deposit (CD’s), cashier’s checks, and money orders are covered. Stocks, bonds, mutual funds, Treasury securities, life insurance, annuities, and items held in safe deposit boxes are not included in deposit insurance coverage. 

If we look back at the first bank fallout of SVB in 2023, a number of factors came together to create this mess, which I could talk about for hours. For example, a key factor is interest rate risk. This vulnerability existed two or three years ago, so it surprises me that financial supervisors and regulators didn’t require the bank to hedge its interest rate risk. With the large number of uninsured depositors, exposed to so much risk, SVB should have had a program in place to hedge that risk. Frankly speaking, where were the regulators?  Where were the Feds?  I realize that hindsight is often 20/20, so at this point, the real issue is who will end up paying the piper for this quasi-bailout of the bank. Will ordinary Americans end up paying for it, one way or another? And what will the price tag be?

Back in March, the Biden administration said it would guarantee uninsured deposits at SVB and has continued to support consumers who had funds at the other 4 failed banks. Their goal is to prevent additional consumer panic that causes them to rush to pull out so much money that even healthy banks buckle. That scenario would unsettle the entire financial system and risk derailing the economy. Biden has said, "Americans can have confidence that the banking system is safe. Your deposits will be there when you need them."

Unfortunately, Silicon Valley bank had an extremely high share of deposits above the FDIC insured amount, which is $250,000 per account title: 94% of Silicon Valley’s deposits were uninsured. For context, the average figure for large banks is about half that level₃.  Again, where were the regulators and the Feds?

Kathryn Judge, a law professor at Columbia University, said a bigger cost to consumers and the economy could stem from potentially major changes to the financial system that result from this episode. Even if taxpayers aren't directly on the hook, some economists say the banks' customers still stand to benefit from government support. “It's going to require us to revisit the entire bank regulatory framework," Judge said. “That's far more significant than the modest costs that other banks will pay₃.”

If all customer deposits were considered guaranteed by the government, formally or informally, then regulations will need to be shored up to prevent bank failures or lessen their costs when they do happen. Banks might have to pay permanently higher fees to the FDIC – which in turn will likely trickle down in the form of higher fees and other costs for consumers.

At the end of the day, this points to the need to be deeply involved with your money. You should have a solid retirement system, one which includes diversification not only of your assets themselves, but of where they are held, how they are backed, by whom, and to what extent. 

And as always - be vigilant and stay alert, because you deserve more!

Have a great week.

Jeff Cutter, CPA/PFS is President of Cutter Financial Group, LLC, an SEC Registered Investment Advisor with offices in Falmouth, Duxbury, and Mansfield, MA. Insurance offered through its affiliate, CutterInsure, Inc.

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