Bank Runs 2024: Causes, Consequences, and Prevention Strategies

Bank runs can be a stressful and unpredictable event, but understanding their causes and consequences can help us prepare and prevent them.

The causes of bank runs are often linked to economic instability, such as a recession or a sudden drop in interest rates.

In 2024, the global economic situation is particularly fragile, making a bank run more likely.

The consequences of a bank run can be severe, including the loss of deposits, business closures, and even widespread unemployment.

A bank run can also have a ripple effect on the entire financial system, causing a credit crisis and further economic instability.

Prevention is key, and one strategy is to maintain a stable and transparent banking system.

Related reading: List of Bank Runs

A bank run is a situation where many people try to withdraw their funds from a bank at the same time, often due to fear of the bank's collapse. This can happen if people lose confidence in the bank's stability.

Banks usually keep only a small percentage of deposits as cash on hand, so they must quickly increase their cash position to meet withdrawal demands. They do this by selling assets, which can sometimes be at lower prices than usual.

A silent bank run is similar, but depositors withdraw funds electronically without physically entering the bank. This can happen through ACH transfers, wire transfers, and other methods.

A run on the bank is a situation where many depositors try to withdraw all of their funds at the same time, fearing the bank will collapse.

This can happen when people lose trust in the bank and think it's going to go out of business. Banks typically keep only a small percentage of deposits as cash on hand, which means they might not have enough money to meet the withdrawal demands of their customers.

Banks often have a set limit on how much cash they store in their vaults daily, which is based on their needs and security concerns. This limit can be a challenge during a bank run, as the bank may not have enough cash to meet the demands of its customers.

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In some cases, a bank may sell its assets to increase its cash position, but this can be done at a lower price than usual, causing losses. These losses can further erode customer trust, leading to more withdrawals and potentially triggering a bank run.

Silent bank runs can also occur when depositors withdraw funds electronically in large volumes, without physically entering the bank. This can be just as damaging as a traditional bank run, as it can still cause a bank to run out of cash and become insolvent.

Climate risk poses a unique threat to the financial system, with the potential for climate tipping points and feedback loops to generate systemic economic fallout. This can lead to widespread financial instability.

The Financial Stability Board (FSB) has warned about the risks of climate change to the financial system. Climate risk can have far-reaching consequences, affecting not just the environment but also the economy.

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Climate-related disasters can cause significant economic losses, which can then lead to a bank run. This is because investors may lose confidence in the bank's ability to withstand such losses.

The potential for climate tipping points and feedback loops to generate systemic economic fallout is a major concern. This can lead to a chain reaction of events that ultimately destabilize the financial system.

Curious to learn more? Check out: Turkish Economic Crisis (2018–current)

Bank runs can happen for a variety of reasons, but most often it's due to panic rather than true insolvency. Banks typically keep only a small percentage of deposits as cash on hand, so if too many customers demand their money, the bank simply won't have enough to return to their depositors.

Banks have a set limit on how much they store in their vaults daily, and they often keep specific amounts in reserve at the nation's central bank. This is partly because the Federal Reserve pays them interest to do so, a program called Interest on Reserve Balances (IORB).

One key factor that can trigger a bank run is customer concerns caused by losses taken when banks sell assets at lower prices. This can happen when a bank needs to increase its cash position quickly to meet withdrawal demands.

Risky times are ahead, and it's essential to understand why. Bank runs can happen when a large number of people start making withdrawals due to fear, not necessarily because the bank is insolvent.

A bank's vault has a daily limit on how much cash it can store, set for security reasons. This limit is a safety net to prevent bank runs.

Banks also keep a portion of deposits in reserve at the central bank to minimize risks. The Federal Reserve even pays them interest for doing so, under a program called Interest on Reserve Balances (IORB).

However, banks often keep only a small percentage of deposits as cash on hand. This means they need to increase their cash position quickly to meet withdrawal demands, sometimes by selling assets at lower prices than usual.

Silent bank runs are just as concerning, where depositors withdraw funds electronically in large volumes without physically entering the bank. This can happen through ACH transfers, wire transfers, and other methods.

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The current economic climate is indeed risky, with heightened interest rates and a decline in demand for office space. This has already pushed some banks, like New York Community Bank, to the brink.

The end of the Bank Term Funding Program (BTFP) and the reverse repo buffer could make banks even more risk-averse and profit-hungry. This could lead to another 2008-style liquidity crisis, where banks become wary of lending to each other and weaker ones become unviable.

An institution is considered bad if it's not managing its finances effectively, which can lead to a bank run. This can happen when a bank doesn't have enough cash on hand to meet the demands of its depositors.

A bank usually only has a limited amount of cash on hand, as stated by the St. Louis Federal Reserve, which can be as little as 10% of its overall deposits. This means that if too many customers demand their money, the bank simply won't have enough to return to their depositors.

Institutional failure can be caused by a variety of factors, including poor management, lack of regulation, and economic downturns. For example, the Federal Deposit Insurance Corporation notes that the 2008 financial crisis was partly caused by the collapse of Lehman Brothers.

A bank's financial health can be assessed by looking at its reserve requirements, which are set by the Federal Reserve. The Board of Governors of the Federal Reserve System explains that reserve requirements are the percentage of deposits that banks must hold in reserve, rather than lending it out.

Here are some key statistics on bank reserve requirements:

In some cases, a bank's failure can lead to a broader systemic crisis, as was the case during the Great Depression. The Cornell University study on bank runs notes that information cascades can spread quickly, leading to a run on the bank.

The FDIC has a deposit insurance fund in place to protect depositors in the event of a bank failure. The fund is managed by the FDIC and is used to pay out deposits up to $250,000 per depositor, per insured bank.

Bank runs have been a significant concern for centuries, and recent events have shown that they can happen at any time. The Great Depression is a prime example, where American depositors panicked and withdrew their deposits after the 1929 stock market crash.

Thousands of banks were affected, creating a domino effect on the economy. This was a major contributor to the devastating economic conditions of the time.

Silicon Valley Bank, Washington Mutual Bank (WaMu), and Wachovia Bank are more recent examples of significant bank runs. These banks suffered massive withdrawals, with WaMu losing $16.7 billion in just two weeks.

In the case of WaMu, the bank's collapse was also caused by a poor housing market and rapid expansion. It's a cautionary tale of how bank runs can be triggered by a combination of factors.

JPMorgan Chase eventually bought WaMu for $1.9 billion, but the damage had already been done.

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To prevent bank runs, governments have taken several steps. Establishing reserve requirements, which mandate that banks keep a certain percentage of deposits on hand as cash, was a significant move.

The Federal Reserve has reduced this requirement to zero because other monetary policy tools have been created. This change has made it easier for banks to manage their cash reserves.

The FDIC was established in 1933 to insure bank deposits and maintain stability and public confidence in the financial system. Each depositor is insured for up to $250,000 in each different ownership category.

In some cases, the FDIC may extend its coverage, as seen when Silicon Valley Bank failed in 2023 and depositors were fully reimbursed. The money in the FDIC fund comes from quarterly fees assessed on banks.

Quantitative tightening is a process where central banks sell bonds and remove the proceeds from the financial system, which should be a drag on the economy. This is the opposite of quantitative easing, where central banks create new money to buy government bonds and other financial assets.

The most recent leg of quantitative tightening began in 2022, after a long period of quantitative easing that started in response to the pandemic in March 2020. This has been a significant change in the way central banks manage the economy.

The effects of quantitative tightening have been tempered by a facility known as the overnight reverse repurchase agreement. This facility allows financial institutions to deposit their excess cash overnight with their central bank in exchange for government bonds, earning extra money at very low risk.

Daily balances at the Fed's overnight reverse repo have fallen from over $2.2 trillion in mid-2023 to below $600 billion in January. This is a significant decrease, but the positive balance still offsets the need for the Fed to remove bank reserves as part of quantitative tightening.

The transition to a post-quantitative tightening economy could be bumpy, with banks potentially raising lending rates and becoming less willing to lend. Many analysts expect the buffer to disappear in 2024, with a range of predictions from late in the year to as soon as March.

Governments have taken several steps to diminish the risk of future bank runs. One of the biggest steps was establishing reserve requirements, which mandated that banks had to maintain a certain percentage of total deposits on hand as cash.

The Federal Reserve has since reduced this requirement to zero due to the creation of other monetary policy tools. The U.S. Congress established the FDIC in 1933 to insure bank deposits and maintain stability and public confidence in the U.S. financial system.

The FDIC provides insurance based on ownership category, with each depositor insured for up to $250,000 in each different category. This means that depositors have a high level of protection against bank failures.

In some cases, the FDIC may extend its coverage to fully reimburse depositors, as seen when Silicon Valley Bank failed in 2023. The FDIC used funds from the Deposit Insurance Fund to do so, which is furnished by quarterly fees assessed on banks.

Banks can also take a proactive approach to prevent bank runs, such as temporarily closing to prevent people from withdrawing their money en masse. Franklin D. Roosevelt implemented this solution when he declared a bank holiday in 1933, calling for inspections to ensure banks' solvency.

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The Bank Term Funding Program (BTFP) was a crucial lifeline for US banks during a time of crisis. It allowed banks to borrow from the central bank using their bonds as collateral.

The BTFP effectively stopped the panic by pricing the bonds at their original face value, rather than market value, which helped reinflate banks' balance sheets. This was a clever move by the Fed, as it allowed banks to access more funding without having to deal with the consequences of higher interest rates.

Only one bank, San Francisco's First Republic Bank, has since gone under, a testament to the BTFP's success. The program's closure is likely to increase banks' borrowing costs, which will impact their profit margins.

Banks might react to this by increasing lending rates or reducing the amount of credit available to customers, which could weaken the economy.

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