Introduction
The collapse of Silicon Valley Bank in March 2023 rattled the market and the general public and brought back memories of the 2008 financial crisis. Until its collapse, SVB was the 16th largest bank in the United States with an asset base of more than $250 billion (Browne, 2023). As its name suggests, technology start-up companies banked with SVB, making it a leading tech lender and financial institution based in California, United States.
The bank’s collapse set off an unprecedented panic in the market as the financial and technology industries were affected by the swiftness of its failure. In addition, SVB’s failure raised concerns about the going concern status of other regional lenders, leading to one of the worst performances on the stock market by the banking industry. However, while the industry leaders may not have anticipated the failure, several factors played a central role in its collapse and eventual acquisition by First Citizens Bank. The factors that led to the collapse of SVB include excessive risk-taking, a flawed business model, inadequate oversight, and systemic failures within the banking industry.
The Collapse of Silicon Valley Bank (SVB)
The collapse of a financial institution in a major economy such as the US is usually not associated with general economic weaknesses. However, the collapse of SVB raised jitters about the general health of the US economy. With over $250 billion in assets, SVB was a significant financial institution whose failure industry leaders and regulators did not anticipate. Additionally, persistent inflation and depressed GDP growth added to the fear that the US economy was on the precipice of an economic disaster similar to the 2008 economic depression. Almost three months later, these fears have not been precipitated, and the general public has moved on after learning the factors that contributed to the failure of SVB.
One of the most critical factors that led to the collapse of SVB was its flawed business model and risk appetite. SVB was colloquially dubbed the start-up bank due to its significant business with technology start-up companies. Traditionally, start-ups are hazardous companies shunned by most banks when it comes to access to loans.
However, SVB lent to these technology companies against the traditional practice of avoiding them by other banks. Loans to this sector amplified SVB’s risk profile, leading to severe losses when the tech start-up sector experienced a downturn (Rubinstein, 2023). Therefore, the bank’s overreliance on a single sector increased its risk exposure, making it vulnerable to market fluctuations and undermining its stability, so it could no longer continue as a going concern.
The collapse of SVB shed light on systemic weaknesses and issues in the banking industry. Specifically, instead of focusing on long-term survival, financial institutions are motivated to make strategic decisions to achieve short-term gains. Focusing on the near term destabilized the long-term prospects, leading to a collapse like the one with the SVB. One example of this short-sightedness is SVB’s aggressive lending practices driven by fierce competition and the desire for rapid growth, which created a risk environment that eventually led to SVB’s failure (Helmore, 2023). Therefore, as one of the most significant sectors of the US economy, the banking industry should give up its pursuit of short-term profits in favor of long-term stability, which is good for the country and the shareholders.
Another factor contributing to SVB’s failure is the bank’s inadequate risk management and oversight. Despite lending to one of the riskiest sectors (technology start-ups), SVB failed to adequately assess and mitigate the risks associated with its lending activities. Consequently, the lack of adequate risk control and exposure to excessive credit risk made the bank particularly susceptible to economic downturns (Smialek, 2023). This risk exposure spooked the market and led to a sudden collapse of the bank within thirty-six hours as investors dumped SVB’s stock. Thus, without assurances that the bank could mitigate the risks it faced, holding SVB’s stock became untenable for investors, leading to the sudden collapse.
Another reason for the collapse of SVB was a regulatory failure by the Reserve Bank. In investigating why SVB failed, the Fed highlighted its role in the collapse. In an unusual move, the Federal Reserve admitted that there were shortcomings in its oversight of SVB. Specifically, the bank cited lax supervision and inadequate risk management as reasons for the bank’s failure (Morrow, 2023; Browne, 2023).
Thus, due to inadequate monitoring and supervision by the Federal Reserve, SVB’s issues were only noted too late, and nothing could be done to prevent the inevitable. Interestingly, unlike the 2008 crisis, the Fed is empowered by the Dodd-Frank Act to ensure that financial institutions are not taking excessive risks that could jeopardize the economy’s stability or customers’ deposits. However, its inadequate monitoring of the deep structural issues at the bank contributed to its collapse.
The collapse of SVB has had far-reaching consequences for the technology sector and the US economy. In particular, its sudden disappearance as a significant lending source for thousands of start-up companies will disrupt the financial ecosystem of Silicon Valley and hinder the rapid growth of some promising technology start-up companies (Hetler, 2023). In addition, the failure of SVB had a domino effect on other regional banks with similar risk profiles.
Specifically, two other regional lenders, including First Republic Bank and Signature Bank, have collapsed since their failure. The uncertainties related to the failure of these banks have not subsided. Instead, they have sparked a debate on the general health of the US economy, with some experts expecting further failure of regional lenders. Therefore, the domino effect from the failure of SVB has extended beyond the tech industry and negatively impacts confidence in regional lenders, raising questions about the general health of the US economy.
Conclusion
In conclusion, the collapse of SVB in early March resulted from several factors, such as a flawed business model, excessive risk-taking, inadequate risk management, regulatory oversight issues, and systemic issues within the banking industry. The overreliance of the bank on lending to the precarious technology start-up sector, combined with inadequate supervision, created conditions for failure by amplifying the bank’s vulnerabilities to the economic downturn. Consequently, the bank could not continue as a going concern after an economic downturn forced it to be sold to another regional lender.
The aftermath of the bank’s failure has brought to the fore the need for greater oversight of the banking industry, prudence when taking risks, adequate risk management, and regulatory reforms. The bank’s demise is a sober reminder of painful lessons learned after the 2008 financial crisis. These lessons include robust risk management, strict oversight, and financial institutions’ diversification of business models to reduce reliance on a single sector. Thus, while uncertainties linger on the viability of some regional banks with similar problems as SVB, policymakers should draw lessons from this collapse to prevent the future collapse of other financial institutions in the US.
References
Browne, R. (2023). “Utterly irresponsible”: SVB failure was caused by a banking – not tech – crisis, top VC says. CNBC. Web.
Helmore, E. (2023). Why did the $212bn tech-lender Silicon Valley Bank abruptly collapse? The Guardian. Web.
Hetler, A. (2023). Silicon Valley Bank collapse explained: What you need to know. WhatIs.com. Web.
Morrow, A. (2023). Fed autopsy on SVB Faults Bank’s management – and its oversight. CNN. Web.
Rubinstein, M. (2023). The demise of Silicon Valley Bank. The Demise of Silicon Valley Bank. Web.
Smialek, J. (2023). Fed slams its oversight of Silicon Valley Bank in the post-mortem. The New York Times. Web.