We already wrote about the fact that on March 10, 2023, the California regulator closed Silicon Valley Bank, and what the consequences of this could be. Now the European banking system is also under attack. Surprisingly, the largest bank in Switzerland (a country whose banks have always been especially trusted) Credit Suisse was the first to suffer. Pro Business asked financial analyst Alexander Shkut how dangerous this situation is, what is the reason for bankruptcies and panic, and how all this can affect Belarus.
Certified Financial Analyst, member of the CFA Institute
Bankruptcy was greatly helped by modern banking technologies
ā The global banking sector experienced a significant shock last week: the 16th largest US bank SVB (assets of $209 billion) went bankrupt. He experienced a classic ābank runā, that is, when almost all bank customers simultaneously asked to return their deposits or transfer money to other accounts. Since the main clients of this bank are startups, that is, people who make decisions very quickly, this all happened too quickly. And the bank could not simply pay off its obligations. The development of information technology has also affected the speed here. When, for example, an American bank went bankrupt in the 30s or 70s of the twentieth century, people stood in line, and the bank simply could not serve all the depositors at the same time. Due to this, the situation smoothed out.
Now everyone uses Internet banking and mobile banking, so virtually all bank customers, if they hear some negative news, can simultaneously press a button and withdraw all the money from their accounts.
That is exactly what happened. And the bank could not pay off its obligations, because it had incorrectly built assets and liabilities: the accounts mainly held the money of start-ups, which, roughly speaking, paid salaries to employees and bought the necessary equipment from these accounts. The bank paid practically no interest on these accounts and used this money to buy reliable, risk-free government bonds, but with a long maturity. That is, deposits were on demand, and bonds were bought with a maturity of 10 years or more. The regulator, as well as auditors and rating agencies somehow overlooked this moment.
The US Federal Reserve in 2020, after the advent of covid, began to raise interest rates. When the interest rate rises by 1 percentage point, a ten-year bond loses about 10% in value. If you keep these bonds until maturity, then everything is in order, the holder receives the entire amount. But, if it needs to be sold urgently, then a loss is fixed, because the bond drops significantly in price. That is, the bankās portfolio of these long-term government bonds sank by about 25%, and the bank had about $40 billion of money in short-term securities and in cash, that is, actually in accounts.
When the bankās clients began to ask for their money, they were paid everything, but when the bank ran out of this money, they had to sell long-term securities at great losses. And at some point, these losses exceeded the capital of the bank. Then the regulator introduced a temporary administration and declared bankruptcy.
Why no one expected this bankruptcy: mistakes of top managers
Why did no one know about this situation in advance?
More recently, rating agencies confirmed the credit rating of bonds at an investment level, that is, no one expected bankruptcy. The first person most likely to have realized what was going on was the bankās chief risk officer, who left in April 2022. And the top management of the bank at that moment made a very interesting decision ā just not to hire a new risk manager.Therefore, the bank has been without a chief risk manager since April 2022. Also, ironically, the position of CAO (chief administrative officer, that is, director of administrative affairs) at Silicon Valley Bank was held by a person who worked at the famous Lehman Brothers, whose bankruptcy began the 2008 global financial crisis. It is also interesting that the same person was a top manager in the Arthur Andersen auditing company, which was convicted of issuing illegal positive audit reports, after which it closed.
Here, in fact, is such a top manager who, by the way, just a week before the bankruptcy of the bank, exercised his options and bonds, but at the same time publicly said that everything was fine with the bank. Most likely, he understood what the bank was going to.
However, regulators and auditors did not sound the alarm, since the bankās investment portfolio was in absolutely risk-free securities. And this is formally the correct solution. But they did not quite correctly classify these papers, and bond portfolios can be classified into two categories. The first is securities for sale, the second is securities to maturity. They classified everything as maturities. And due to this, the bonds that fell by 25% were accounted for at the purchase price, and in the year when they were bought, the bankās statements were not entirely reliable, but here the problem is rather in practices. Financial reporting in the US banking sector did not properly take into account liquidity ratios. This is what is now creating risks for other US banks. For example, in Europe, Russia and Belarus, the liquidity ratio is used more efficiently: it is monitored by regulators.
What happens after bankruptcy
After the bankruptcy of SVB, the Federal Reserve System was looking for a buyer for it, who would deal with all the problems, but, unfortunately, did not find it.
But jointly, the US government, the Fed and the Deposit Insurance Corporation agreed on a decision on the bank and stopped this situation. As a result, the bankruptcy did not provoke any consequences for the global financial system. All customers of the bank will be returned their funds. This helped stop the flight of depositors, which began to spread to other banks.
However, the shareholders of the bank and the holders of its bonds have suffered greatly ā they will not receive anything.
Most likely, after this situation, the American banking system will assess risks in more detail, and measures will be taken to prevent similar situations in the future.
Wake-up call from Europe: difficulties for a Swiss bank
Already this week, European markets began to panic about the state of Credit Suisse bank: at the moment, its quotes fell by 30% due to news that their main shareholder no longer wants to increase his stake in the bankās capital. Reason: due to regulatory restrictions, the shareholder does not want to own more than 10% of this bank, since he also has significant liquidity problems.
As a result, there were fears that the bank would also go bankrupt. However, this bank is much larger than SVB, it is backbone for the entire global financial system. It is the second largest bank in Switzerland.
The point in this story has not yet been set. Next week there will be a statement from the Swiss National Bank. But it has already become known that the National Bank will provide Credit Suisse with 50 billion Swiss francs (about $54 billion). loan. This will increase the level of the bankās liquidity to settle obligations and calm the market. The bankās quotes partially recovered after this news. In the short term, the stability of the bank is beyond doubt, but it is too early to talk about long-term forecasts. We need to follow the development of the situation.
What does all this mean for the global financial system and Belarus
It is unlikely that any regulator would allow a bank to fail in such a way that depositors would suffer. This means that there should be no panic, even if this is a systemic problem and this situation is present in all banks. The consequence is that regulators will prevent a global crisis. The only thing that can happen is a very accelerated inflation of the euro or the dollar (depending on which banking system will have problems). The worst thing that can happen in this case is that inflation will not slow down if it is a systemic problem. Therefore, there is no risk for the global banking system. But the problem with inflation was confirmed today by the ECB, which raised the key rate to 3.5% per annum.
The same applies to the Belarusian banking system. It is now quite isolated from the global banking system, so the impact on Belarus will be very limited.
