By Alex Lipton and Alex Pentland
In the past year social media panics caused “flash crashes” that bankrupted Silicon Valley Bank (SVB) and made giant banks such as Deutsche Bank wobble. SVB’s officers had unwisely purchased long-term U.S. Treasury bonds, which lost value in 2023 when interest rates increased dramatically. The bank failed when customers withdrew $42 billion in a single day after prominent venture capitalists, worried about its financial stability, used Twitter and other social media channels to encourage companies in their portfolios to withdraw their funds. The bank collapsed the next day when regulators took possession of it.
When such crashes happen, state regulators, as well as those at the Federal Reserve and the Federal Deposit Insurance Corporation (FDIC), are often caught flat-footed because they are not continuously monitoring banks for these kinds of faulty investments that make them unstable. As a result, regulators not only have to take over the already failing bank but other banks in the same ecosystem that made that same investment and are thus seeing the same losses. Regulators do this to stem subsequent runs that start as the customers of those related banks realize their bank is in the same boat as the one that’s failed and start pulling their deposits. Bank defaults are damaging to small businesses, including start-ups, as well as to ordinary depositors that depend on bank loans for the most basic financial operations, such as paying employees or suppliers.