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analysis
Banking


SVB CRASH IS THE LONG TAIL OF 2008 FINANCIAL LOOSENING, RIPPLES WILL AGAIN
SPREAD GLOBALLY

India was relatively insulated in 2008 but it did not escape the global fallout
that followed. Any big crisis in the west is bound to reach India via a general
decline in growth impulses.

Silicon Valley Bank or SVB. Photo: Alpha Photo/Flickr CC BY NC 2.0

M.K. Venu

Banking
World
18/Mar/2023

This piece was first published on The India Cable – a premium newsletter
from The Wire & Galileo Ideas – and has been republished here. To subscribe to
The India Cable, click here.

The US banking crisis triggered by the collapse of Silicon Valley Bank (SVB) has
its origins in the unprecedented monetary loosening by the Federal Reserve and
other OECD central banks after the 2008 global financial meltdown, which
intensified in 2020 after the COVID-19 outbreak.



The Fed’s balance sheet expanded from $800 billion to $4.5 trillion in the
decade after the 2008 crisis. Post COVID, the Fed balance sheet expanded further
from $4.5 trillion to $ 8.5 trillion. Have you ever wondered where this flood of
freshly minted US dollars backed by the Federal Reserve might have gone? Large
chunks, available at virtually zero interest, were going into financial assets
like stocks, real estate, commodities and most importantly, safe US government
securities of short and long tenures. It is well-known that large and mid-size
US banks used the Fed’s big bailout in 2008 to buy US government securities,
because the prospects of real lending for growth were always limited due to
growth impulses generally weakening in the US and EU over the longer term.

This is also reflected in Silicon Valley Bank’s balance sheet profile. According
to the Economist, “SVB’s deposits more than quadrupled – from $44 billion at the
end of 2017 to $189 billion at the end of 2021 – while its loan book grew only
from $23 billion to $66 billion.” Clearly, a very unusually large chunk (over
$120 billion) of SVB deposits were invested in government securities.

So when the low interest rate cycle reversed dramatically over the last one
year, with the Fed upping the benchmark rate from virtually zero to 5%, the
banks found a gaping hole in their investment portfolio. The irony is they are
suffering for investing in ‘safe’ government securities.  A sudden rise in
interest rates eroded the value of older US government securities on their
books, which bore a very low interest coupon. When SVB found its balance sheet
in tatters, it tried to repair the damage by raising additional capital. But the
market had read the writing on the wall and there was a massive run on the bank,
which ceased only after the Fed extended its guarantee to all depositors of SVB.
Following SVB’s collapse, other mid-size banks in the US, like Signature and
First Republic, also discovered big holes in their balance sheets. Big US banks
like JP Morgan Chase, Morgan Stanley and others are proposing to infuse $30
billion to rescue First Republic Bank.

According to Forbes magazine, other banks worried about liquidity took out a
combined $164.8 billion in loans from the Federal Reserve over the past week,
topping a record set in 2008. The KBW stock index for US banks has fallen more
than 25% in a week, which has happened only twice before in recent decades,
after the 2008 global financial crisis and the COVID-19 outbreak. Today, the KBW
bank index is where it was in March 1998! That’s how much US bank stocks have
lost. No wonder bigger US banks are trying to rescue midsize banks to stop the
contagion spreading!



Some macroeconomists say that the US Fed should not have reversed the benchmark
interest rates so sharply, so soon, to attack high inflation. Many US analysts
feel that the Fed may now go slow on its interest rate hike path. Next week, it
will review monetary policy options.

In India, meanwhile, the business community is suggesting the RBI should go slow
on hiking benchmark rates. So far, the banking crises in the US have had limited
impact here. According to tech entrepreneur Sanjeev Bhikchandani, only about 14%
of India-based VC funds had any deposits in SVB.

But bank stocks in India also saw downward pressure last week, on account of
sentiment. If the US slows its interest rate hikes, there might be some
breathing space for the financial system at large, which had gotten too
complacent over a decade and a half with interest rates near zero.

But the deeper malaise represented by the multiple asset bubbles created over
nearly 20 years with ultra-cheap money flowing from the US central bank will
come back to haunt us from time to time. It is nearly impossible to predict
which asset bubble will be pricked. Today, US government securities in bank
balance sheets are falling. Tomorrow, it could be commodities, stocks or real
estate, which are always vulnerable.



India was relatively insulated in 2008 but it did not escape the global fallout
that followed. Any big crisis in the west is bound to reach India via a general
decline in growth impulses. Remember the banking sector crisis after 2010 was
caused partly by the excessive investment optimism of corporates, who assumed
GDP growth over 8%. That never materialised, resulting in the well-documented 
“twin balance sheet” ( banks and corporates) problem. Socialisation of losses is
a reflexive tendency seen during such periods of crises, whether in the
developed or developing world. This, of course, continues unabated.

M.K. Venu is a founding editor of the The Wire.






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