Will Johnson – March 23, 2023
3-minute read
This is where it all started:
What?
This is where it all started. The origins of the BREAKING NEWS you can’t escape these days:
Wait what? What are you talking about?
Let’s go back to 15th century Italy. The locals were trading goods, often in several different currencies, and they needed a place to meet to transact business.
And they went to a park bench?
Sure did. They would set up their stalls in courtyards on a long bench called a bancu, eventually translated to “bank” in English. This is where we believe the first banks were born.[1]
Is your goal to bore me to death to forget about these epic bank failures?
With all due respect, do you even know what banks do? I honestly don’t think most of us could explain traditional banking.
Alright, chief. Get on your ivory tower and enlighten us…
People deposit their money at banks and earn interest on that money, call it 3%. The bank will then lend these deposits out to individuals and businesses and receive interest on those loans, say 7%. The bank is taking more money in than they are paying out, earning what is called the “spread”.[2]
Simple enough.
Sure, until it’s not.
Another history lesson coming…?
Yes, but only because it further explains the inner working of banks. Fortunately, this one is recent history: Silicon Valley Bank (SVB). We all see the pile of rubble. But how did it crumble?
You tell me…
We now understand that banks lend out the money you deposit with them. They may also, however, choose to invest it.
Like in the stock market?
Typically, they invest deposits in U.S. treasury bills/bonds. They are generally considered to be “low-risk” investments.
How’d this lead to a pile of rubble then?
In short, SVB took unnecessary risk with their treasury investments. An historic rise in interest rates eventually led to the bank taking a $1.8 billion dollar loss in their treasury bond portfolio.
And that’s all it took?
That and the fact that their clients, mostly in the struggling tech sector, were simultaneously withdrawing their deposits to support their businesses. These withdrawals intensified as rumors spread about the losses in their treasury bond portfolio. Eventually, the bank ran out of money.
Why do banks take unnecessary risks in the first place?
Not all banks do. The U.S. has 4,137 commercial banks, ranging from small local credit unions to the behemoths.[3]
How do we know which ones are conservatively managed?
In short, there is no outright indication of that. We do know that all of the 4,137 banks previously mentioned carry FDIC insurance. This protects your deposits up to $250,000.
This isn’t making me feel better.
Listen, the last thing I want to do is create a panic. The media is largely going that route and I find it despicable.
So what’s your point?
My point is that not all banks are created equal. Some are big, some are small. Some are simple, some are complex. Some take less risk, others take on more. In many ways I yearn for the simple days of 15th century Italy. Just be cognizant that we’re not still doing as the Romans did.
[1]https://en.wikipedia.org/wiki/History_of_banking
[2] Technically, this is an oversimplification. Banks don’t need to have a 1:1 ratio of deposits to outstanding loans. To learn more: read here: https://www.yahoo.com/now/banks-money-deposit-110024843.html
[3]https://banks.data.fdic.gov/explore/historical?displayFields=STNAME%2CTOTAL%2CBRANCHES%2CNew_Char&selectedEndDate=2022&selectedReport=CBS&selectedStartDate=1934&selectedStates=0&sortField=YEAR&sortOrder=desc