Markets were shocked by the sudden downfall of Silicon Valley Bank (SVB), one of the biggest banks servicing startup companies around the world. Cash needy startups have been drawing more and more of their deposits as rates increase. Lower interest rates typically meant that venture capital funding was plentiful. Higher interest rates have drained that capital as funders need to assess their return expectations and impending economic slowdown.

SVB’s customer base being so startup heavy meant that cash needs were higher than a more diversified national bank. Remember, regional banks in Kansas didn’t do so well during the shale boom and crash in mid-2010s and 2020. Banks don’t hold dollar-for-dollar the deposits in their vaults. They loan out a portion of those deposits or invest to earn a return. If depositors want their money all at the same time, you have a classic bank run. During the Great Depression, banks would call in outstanding loans to pay back depositors. Imagine owing $20,000 on a car loan and your bank says it’s all due tomorrow.

SVB tried to stay solvent by selling invested assets which were treasuries and other bonds. The problem was these were, on average, three year bonds sold right after a historic rise in interest rates, which meant these bonds were worth less than they paid for them. The more worrisome issue was there were some 10-year bonds in that portfolio. If they anticipated the increased liability of higher withdrawal rates, they would’ve bought shorter dated bonds and let them mature at par. This is called an asset/liability matching strategy and SVB had a massive mismatch. Selling bonds before their maturity date set SVB back by $2 billion in investment losses. SVB could not honor withdrawals anymore.

Like every other business, startups park their money in banks. Used for payroll, rainy day, or investments. When the bank is no longer viable, who’s fault is it? Depositors with SVB were suddenly told they can’t access their money. Hundreds of businesses can’t pay thousands of workers.

My LinkedIn feed is full of posts about the SVB collapse. I’ve been going through comments and am seeing lots of posts about letting the bank fail. There’s still a very nasty taste in lots of mouths about the last bailout. In 2008, the very banks that got us into the housing crisis were the ones that got bailed out.

Depositors own the deposits, not the banks. The 2008 bailouts did two things, protect those depositors (millions of families and businesses) and preserve the financial system from total collapse. If there wasn’t a bailout, people would lose any dollar above $250,000 which is the FDIC limit. That’s their own money they would lose because they chose to deposit at a specific bank. Washington Mutual was a prestigious bank that was still reputable. Letting the bank fail on its liabilities would mean the majority of customers would simply lose the money in their checking and savings accounts. Several years later, the US taxpayer got the bailout money back plus interest; roughly $15 billion of earnings on the $40 billion bailout.

I’ve studied the Great Depression on and off since middle school. In that first lesson my teacher set up a fake stock market where we bought and sold stocks in the early 1920s. Most of us didn’t know the historical context of what market we were participating in. He had us choose from a list of stocks and would post their prices every 15 minutes. We would start with $1,000 and make trades. Our simulation started off very well and we were all making lots of fake money on our “genius” stock picks. I tripled my money in a matter of minutes.

Then it came. The teacher started quickly updating the stock prices but instead of going up, they were rapidly going down. Down so fast that we did not have a chance to sell. The class was screaming to sell but he didn’t take our trades. Most of my fake stocks were zero and I was devastated. The majority of the class still had money left but were in complete shock about what just happened. One student did not buy any stocks and sat out. They still had their original $1,000.

Though that student was ahead of the class on paper, the teacher told us the bank could not give that student their $1,000 deposit. Lesson two. Each trader had a colored dot on our trade sheet. Red, blue, green, yellow. Red meant you banked at Red Bank, which went under. Anyone who banked there could only pull 10% of their money and lost the rest. Blue bank completely closed so those students got no money. And so on.

He went on with his lecture about the Great Depression and the stock market crash didn’t just impact traders. It ruined the whole economy because the banking system collapsed. Hoarding money became illegal and the US gold standard came under fire. Remember “When There’s Milk in the Streets”? Paper money stopped circulating and was most desired, not goods and services. Deflation occurs where everything is valued less, that includes our salaries. It is very difficult to circulate money without banks.

That middle school lesson stayed with me and I’ve taken every chance to learn about the Depression. When I see people saying, “Let the banks fail”, I can’t think of a worse outcome. While I do have sympathy for anyone angry at banks for mismanagement, depositors are the ones who are really being saved here. This money wasn’t in crypto or NFTs, it was in cash at a bank. The 20th biggest bank in the US.

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