For all the attention placed on the recent failures of Silicon Valley Bank, Signature Bank, and First Republic Bank, surprisingly little focus has been placed on what exactly sparked the fastest bank run in US history (SVB’s), which then triggered the collapse of Signature and First Republic.
Yes, there were bad bets on long-dated US bonds, other signals of poor risk management, and less-than-perfect vigilance by regulators. There were tweets by tech influencers worried about their money. But follow the thread back a bit further, and you’ll land on another cause: crypto banking.
In 2014, Silvergate Capital, a smallish La Jolla, California-based financial institution, became the US’s first crypto-friendly bank, providing the digital currency industry an onramp to the regulated banking system. It attracted additional crypto customers with a platform that allowed them to move money 24/7, 365 days a year. At its peak, the bank’s crypto deposits grew to $14 billion; 95% were non-insured by the Federal Deposit Insurance Corp. (FDIC), increasing the likelihood that depositors would pull their funds at the first sign of trouble.
Building a business model around crypto customers not known for strong operating controls, board oversight, or compliance with money laundering laws was risky. Several of the bank’s deposit customers were investigated, fined, or shut down. The November 2022 collapse of fraud-ridden FTX set off a domino effect, exposing Silvergate’s weak risk-management practices.
FTX was one of Silvergate’s largest depositors, representing almost $1 billion, or around 9%, of the bank’s total deposits. Prior to filing bankruptcy, FTX withdrew those deposits, which destabilized Silvergate and caused other depositors to panic and yank funds, too. In the last quarter of 2022, Silvergate’ s customers removed a staggering 68%, or $12 billion, in deposits.
On March 8, 2023, once the extent of depositor panic became public, Silvergate voluntarily closed its doors. The next day, SVB, with 94% percent of its deposits non-FDIC insured, some of which were crypto-based, was in trouble. Over the course of 10 hours, it saw $42 billion in deposits exit, the equivalent of $1 million leaving every second. The next day, deposit customers requested $100 billion in withdrawals. Unable to meet this demand, SVB was seized by the FDIC. This fatal event marked the fastest bank run in US history.
In the previous fastest bank run failure, it had taken not hours or even days but weeks to topple a major bank. (The failure of Washington Mutual in 2008, still the largest bank failure in U.S. history, took 9 days, with depositors withdrawing $16.7 billion.)
In recent testimony before the senate banking hearing, Greg Becker, former SVB CEO, attributed this fatal bank run, in part, to the fall of Silvergate and social media.
Two banks down, the Silvergate-induced bank run raged on. Next up was Signature, a New York-based bank which had been aggressively embracing crypto since 2018. Like Silvergate and SVB, over 90% of Signature’s deposits were non-FDIC insured. Of these deposits, 20% were linked to the crypto industry. Based on deposits, Signature Bank was now the largest crypto bank in America. But on March 10, in only two hours, $20 billion of deposits were withdrawn. That weekend, unable to survive, Signature, like SVB, also was taken over by bank regulators.
The bank runs continued. First Republic Bank (FRB), another California-based lender was next. Although not a crypto bank, it had a risk-taking appetite including reliance on mostly non-FDIC deposits (67%) to fund loan growth. Initially, FRB received temporary relief when a consortium of 11 US banks steps up, providing $30 billion in emergency funding. However, by April, once the bank announced that half of its deposits ($100 billion) had exited in less than a month, the bank was shuttered, and pieces sold off. At a Senate bank hearing, in his testimony, former Republic CEO Michael Roffler blamed SVB and Signature for the contagion that spread and infected the broader financial system.
As the crypto ecosystem of banks has grown, it has become intertwined with the very banking system it claimed it would disrupt. The rise of quasi crypto banks such as Boston-based Circle, that take in deposits and generate digital stablecoins used to mimic the US dollar, also present new risks. Stablecoins, a sort of digital money market fund that acts as a bridge between crypto and traditional banking, is now held by millions of investors. When SVB failed, Circle had $3.3 billion in uninsured deposits at risk; this triggered a massive investor selloff. In a matter of hours, the value of the Circle’s USDC stablecoin, the world’s second largest, plummeted. The “run on the bank” at Circle sent further shockwaves through the financial markets, proving, under market stress, this new digital financial instrument might be stable in name only.
The advent of instantaneous electronic transfer platforms and social media has accelerated the speed of bank runs. But while depositors no longer cue up at bank teller windows, the mechanics of bank failures have remained remarkably consistent. Deposits are the primary source banks use to make loans and run their business. When large deposit amounts are pulled, banks are forced to gain liquidity by selling loans and other assets. Such runs can cause fire-sale losses.
Bank runs are not common and occur when depositors withdraw because of panic that they will lose their money. As more depositors pull funds, the probability of bank failure increases. Once depositor confidence is lost, not even the strongest banks can survive.
After the failure of 9,000 banks in the wake of the 1929 Wall Street crash, FDIC insurance was created. Over the years, the limit on insured funds has increased from $2,500 to $250,000 per account. During this recent banking crisis, the limit was temporarily lifted. FDIC insurance is the glue that allows our banking system to function. It provides depositors comfort that their funds are safe, in turn providing banks with a stable, inexpensive form of funding. Banks that stay within these insurance limits have the most stable deposit base. Banks that don’t are playing with fire.
Some claimed the Silvergate contagion would have been reduced if crypto risk had been spread out among more banks. But if more institutions had applied similarly weak banking practices, it would have only magnified the systemic shock. This isn’t moot; crypto remains in a weakened state but Circle’s stablecoin has bounced back; the industry is not going away.
Unchecked, and unwatched, the crypto sector can be detrimental to bank financial health and presents spill-over danger to our larger, regulated financial sector. Events of this past spring prove that policymakers and regulators need to closely examine how best to wall off crypto banking risk.
Mark T. Williams is on the finance faculty at Boston University Questrom School of Business, is a former Federal Reserve Bank examiner, and currently serves as president of the Boston Economic Club.