An article written by Ian Kilbride
There are significant differences between the global financial crisis of 2008 and the current uncertainty in the banking system.
While nothing like the quantum the failure of Bear Sterns and Lehman Brothers in 2008, the collapse of the Silicon Valley Bank (SVB) still represents the failure of the United States’ 16th largest bank. Both SBV and the collapsed Signature Bank were both significant lenders to the ailing tech industry. Signature was regarded as a crypto friendly institution that suffered a double whammy of a downturn in both the tech sector and crypto.
Structurally, however, in contrast to 2008 as a result of sub-prime loans, toxic lending and reckless banking and financial practices, the underlying structural cause of SVB’s failure was investing too heavily in long-dated ‘safe’ government bonds, which while having a decent yield to maturity, left the bank with significant paper losses as a result of the issuance of higher yielding instruments by the Federal Reserve. In other words, SVB and other banks were sitting with significant unrealised losses on their balance sheets.
Recognising their structural balance sheet problem, SBV sought to raise capital in Silicon Valley itself (unwisely) which propelled asset managers, investors and depositors to withdraw their funds. The predictable run on the bank ensued with catastrophic consequences.
Lessons have been learnt from the 2008 banking crisis, resulting, inter alia, in the Dodd-Frank Act of 2010 which aims to curtail the risky banking activities that gave rise to the 2008 crisis, such as predatory lending and over the counter financial derivatives. Importantly, Dodd-Frank also sought to protect consumers, depositors and taxpayers from abusive financial services and to ensure stability in the US banking system. As a result, while SBV investors and shareholders have gone to the wall, depositors have been protected even above the US$250,000 threshold set by the Federal Deposit Insurance Fund. Treasury Secretary, Janet Yellen, also moved rapidly to assure the markets that the banking system was robust and that the Treasury would provide the necessary support to ensure stability. President Joe Biden provided further reassurance that the US banking system was “safe” despite the collapse of VBS. To date, while wary of any escalating contagion effect, the financial markets have responded soberly.
While US government response to stem the uncertainty turning into a banking crisis, the SBV failure and the knowledge that other banks are facing the similar types of bond-balance sheet holes, will play on the collective thinking of the Federal Reserve in its rate-setting patterns.
Meanwhile 4, 686 km away in Zurich, with the support of the Swiss government, Union Bank of Switzerland (UBS Group AG) has stepped in to buy its illustrious, yet ailing and controversial competitor, Credit Suisse, for a mere US$3.2 billion. Credit Suisse investors will receive one UBS share for every 22,48 Credit Suisse shares held, representing a significant discount to its previously traded market capitalisation. Nonetheless, depositors are now secured and there is at least a future for Credit Suisse shareholders in an entity that has promised to clean up and rationalise its neighbour’s operations and to conduct banking business in accordance with the successful UBS philosophy and disciplines.
But while the current banking uncertainty is quite different to the 2008 global phenomenon, errors of judgement, poor management and banking practice, bad governance and lax reporting remain key features of both the SBV and Credit Suisse failures. In this regard an interesting call is being made for the introduction and mainstreaming of regulation technology (Reg-Tech). In essence, Reg-Tech is the use of information technology to enhance regulatory and compliance processes. Its functionality seeks to remove or moderate the over-reliance on the competence and judgement of financial regulators. Currently, banking regulators are largely reliant on the information fed to them by the banks and evaluating this to assess compliance, risk and solvency etc. Reg-Tech on the other hand, enables the systems and software to ‘pull’ information directly from banks which removes the need for reports to be generated. This process makes information exchange faster and far less dependent on human intervention or error. In addition to enhancing the transparency of banking operations and reporting, Reg-Tech allows for constant real-time analytics, monitoring and regulatory supervision. In essence, Reg-Tech holds the potential to provide regulators with early warning signals to assist banks with compliance and to avoid the type of bank collapses experienced in recent weeks.
Ian Kilbride is the Chairman and CEO of The Spirit Group and an Honorary Professor at Stellenbosch Business School