“Silicon Valley Bank collapse”- This isn’t a phrase but a highly mooted headline nowadays! The fiasco of SVB bank is the second-largest financial failure in US history since the 2008 financial crisis. This financial mishap has put a boatload amount worth $175 billion in customer deposits under the control of the Federal Deposit Insurance Corporations. If you keep a hawk eye on the banking and financial sector, then you must have felt the wave beforehand! SVB Chief Greg Becker sold $3.6 million in stock days before the bank’s failure. Now the question is what caused SVB bank collapse? How is it going to impact India? You will get answers to all such queries in this article.
Let’s delve into it!
Silicon Valley Bank (SVB) – A brief overview
As the name suggests, Silicon Valley Bank is a deeply rooted commercial bank established in 1893 with the objective to fund startups. It was the 16h largest bank in the US till its time of failure. Let’s give a brief overview of it-
- Bank’s name: Silicon Valley Bank (SVB)
- Location: Santa Clara, California
- Known for: Largest bank by deposits in Silicon Valley
- Assets at the time of failure (nominal): $209 billion
Before proceeding further, you need to know some basic facts about SVB. It is a bank for startups. This means it opened accounts for them, often before large lenders would bother. It also lent to them, which other banks are reluctant to do because many startups lack assets for collateral. You know well that Silicon Valley boomed over the past decade. So did SVB. In its purple patch, its clients were flourishing with cash and sought money deposits instead of loans.
Although it sounds good, this was just the beginning of the failure! With an enormous deposit, SVB took a few naïve steps that led to its tragic failure. We have described those causes in the next section.
What Caused SVB Collapse?
Here, we have described some of the major reasons that caused the famous SVB to collapse.
1. Larger deposits, fewer loans & buying long-term assets
The deposits in SVB quadrupled from $44 billion in late 2017 to $189 billion in early 2022. Whereas the amount of its loan book hardly stood from $23 billion to $66 billion. This was a severe cause of concern. To the uninitiated, let me explain it in simple words. Banks make money on the net interest spread. That is between the interest they pay on deposits (almost null) and the rate they charge interest from borrowers. So, having larger deposits and fewer loans is a red flag!
So, it became crucial for SVB to acquire other interest-bearing assets. Eventually, at the end of 2021, it made a whopping long-term investment worth $128 billion into mortgage bonds and treasures. This act of buying excessive and expensive bonds using customers’ deposits was larger than a typical bank normally operates.
Now here the clock started ticking! As you know liabilities are short-term in nature, and so are the customer’s deposits. They can demand their money back from the deposits anytime they want and the bank is obliged to return it. So, banks should invest in short-term assets. But SVB has set a classic example of asset-liability mismatch because it invested in long-term assets. Also, it hardly earned 2-3% interest in those mortgage bonds and treasures. This led to low profits too!
2. The downfall of tech companies and startups due to pandemic
Almost every sector of the world faced the aftermath of the Covid-19 pandemic. Silicon Valley Bank was hit hard by two incidents. First the downturn in technology stocks after the pandemic. And second, the Federal Reserve’s action to increase the interest rates to beat inflation. Due to continuous losses, startups and other tech companies began to become needy of cash. As venture capital funding was drying up, companies lacked additional rounds of funding. To survive through the unprofitable businesses, the majority of them turned to SVB to withdraw their deposits. Initially, it wasn’t a huge issue, but the pie grew bigger and bigger leading to the “Bank Run” which we have explained in the next point.
3. Bank Run
A “Bank Run” refers to a situation when depositors try to pull out all their money at once. On 9th March 2023, the Silicon Valley Bank began sinking when investors and depositors tried to pull a staggering $42 billion in a single day. Despite being wealthy customers, they were more fearful of a bank failure and detected symptoms of a financial mishap. They piled up to withdraw their deposits which were over $250,000. It is the government-imposed limit on US deposit insurance. Therefore, this was a huge risk for those customers. This led to the fourth cause of SVB collapse which is explained below.
4. Selling the safe bonds at a loss
To raise the cash to fund the withdrawals, the bank had to sell all of its available-for-sale securities. Although it tried to raise additional capital through outside investors, but couldn’t find them. Since it lacked short-term assets, therefore it had to sell the safe bonds at a loss. Soon, it sold its bonds with a $1.8 billion loss. This was the last nail in the coffin! Bank regulators had no other choice but to seize Silicon Valley Bank’s assets to protect the assets and deposits that remained in the bank. Thus, the SVB became insolvent because it no longer had enough liquid assets to fulfill its payment obligations.
Impact on India
How can a bank collapse in the US impact India? You may ask. The failure of SVB is expected to have a ripple effect on our indigenous startups. Because several Indian startups have deposited a significant amount of funds in SVB bank. The highly affected ones are those that have opened their firms/companies in the US with the aid of funding through VC’s & from Silicon Valley Bank.
Also, it will cripple the fundraising ability of our startups as that US-based bank was a key source of funding for the tech startups. Several Indian startups having exposure to SVB’s investments may face obstruction in funding. Approx. 21 Indian startups are associated with SVB. Based on Traxcn data, some of the exposed Indian companies are-
- One97 communications
- Bharat Financial Inclusion
- Divitas Networks
The inconsistent flow of funds may lead to certain significant effects like-
- Delayed projects
- Laying off employees
The closure of SVB has already sent massive shock waves in the Indian startup sector which was facing a funding problem beforehand. According to the ministry officials who are tracking the developments said that the ongoing bank failure can hit capital flows into India. And this can severely impact the fall in the value of the Indian Rupee.
Union Minister Rajeev Chandrasekhar is going to have a formal meeting with Indian startups that are affected by the Silicon Valley Bank turmoil to offer government assistance to get the better of the situation.
Resolution & Conclusion
To handle this issue, the regulators of the US government have stepped in. The California Department of Financial Protection and Innovation shut down the SVB on 10th March 2023. Still, the bank pleaded with its customers not to withdraw money over concerns because it was falling short on available cash. The regulator appointed the Federal Deposit Insurance Corporation (FDIC) as the receiver. The FDIC created a new bank i.e. National Bank of Santa Clara. So that it can save the deposits and other assets of the failed SVB. Recently, it announced that the new entity would be operating by the morning of 13th March and checks issued by the old bank would continue to clear.
Also, the failure of SVB may only hit some Indian tech startups, but do not possess many “systemic risks.” Indian startups that have funds deposited with SVB may want to diversify their banking relationships to reduce their credit risk to any one bank. They may open accounts in multiple banks or explore alternative banking services like peer-to-peer lending or fintech banking services.
So, here we are wrapping up. Let’s hope for the best.