Why Do Large Banks Fail?
In recent years, financial crises have proven that even the world’s largest banks are not as stable as they seem. The collapse of major financial institutions like Silicon Valley Bank (SVB), Credit Suisse, and Signature Bank has sent shockwaves through the global economy, raising concerns about systemic risks and financial stability.
Even banks with a century-old legacy have found themselves in trouble, leaving investors, regulators, and policymakers scrambling to find solutions. The key questions are: What caused these banking failures? and What lessons can the financial world learn from them?
Causes of Global Bank Collapses
1. Rising Interest Rates and Liquidity Crises
One of the primary triggers for the collapse of several banks in 2023 was the sharp increase in interest rates by central banks, particularly the Federal Reserve (Fed) and the European Central Bank (ECB).
- Banks that had invested heavily in long-term government bonds saw the value of their bond portfolios decline as interest rates rose.
- Many banks were unable to liquidate these assets without taking heavy losses, leading to liquidity crises.
In the case of Silicon Valley Bank (SVB), a bank known for catering to tech startups, the rapid interest rate hikes exposed its heavy reliance on long-term bonds. When customers rushed to withdraw funds, the bank couldn’t sell its assets fast enough without incurring massive losses, leading to its collapse.
2. Poor Risk Management
Many banks that failed had weak risk management practices, leaving them vulnerable to external shocks.
- Credit Suisse, for instance, had been struggling for years due to mismanagement, excessive exposure to risky clients, and multiple scandals.
- SVB’s downfall was partly due to its failure to hedge against rising interest rates, which should have been anticipated by any institution of its size.
In both cases, the inability of these banks to manage financial risks properly left them unprepared when market conditions worsened.
3. Loss of Customer Confidence and Bank Runs
Banking is fundamentally built on trust. The moment depositors lose confidence in a bank’s ability to stay solvent, a bank run becomes inevitable.
- SVB faced a classic bank run, where panicked customers withdrew $42 billion in a single day, depleting its reserves.
- Signature Bank, which had a significant crypto-related client base, also collapsed due to mass withdrawals, triggered by fears surrounding the broader banking sector.
Once confidence erodes, even a financially sound bank can struggle to stay afloat.
4. Exposure to High-Risk Sectors
Some banks had too much exposure to volatile industries.
- SVB had deep ties with tech startups and venture capital firms, which struggled with funding as interest rates rose.
- Signature Bank was heavily involved in the cryptocurrency sector, which saw extreme volatility in 2022-2023.
This concentration risk meant that any downturn in these industries had a direct impact on the banks, making them highly vulnerable.
5. Regulatory Weaknesses
Despite banking regulations being tightened after the 2008 financial crisis, gaps still exist.
- SVB and Signature Bank were not subject to the same stress tests as larger banks due to regulatory rollbacks in 2018.
- Credit Suisse, a globally systemically important bank, failed despite regulatory oversight, raising concerns about how effectively regulators assess risk.
These failures highlight the need for stronger oversight and proactive intervention before a crisis unfolds.
Impact of Bank Collapses on the Global Economy
1. Stock Market Volatility
The failure of major banks created widespread panic in financial markets.
- Bank stocks across the U.S. and Europe plunged as investors feared contagion.
- Central banks were forced to reassure markets and inject liquidity to stabilize conditions.
The uncertainty led to a flight to safety, with investors shifting towards gold, U.S. Treasury bonds, and stable blue-chip stocks.
2. Credit Tightening and Economic Slowdown
Following the banking turmoil, many surviving banks became more cautious in lending.
- Tighter credit conditions made it harder for businesses and consumers to get loans.
- Startups and small businesses, which relied heavily on banks like SVB, faced funding difficulties, slowing innovation and growth.
When banks stop lending freely, economic activity slows down, affecting everything from real estate to corporate investments.
3. A Shift in Central Bank Policy
The collapse of these banks forced central banks to rethink their aggressive interest rate hikes.
- The Federal Reserve and other major central banks had to balance inflation control with financial stability.
- Some analysts believe that bank failures accelerated the end of rate hikes, as policymakers feared triggering a deeper financial crisis.
In short, banking instability changed the trajectory of monetary policy worldwide.
4. The Rise of Alternative Financial Systems
The failure of traditional banks has renewed interest in decentralized finance (DeFi) and alternative banking solutions.
- Many companies and individuals are exploring stablecoins and fintech alternatives to avoid exposure to failing banks.
- Large corporations are diversifying their banking relationships to reduce risk.
While traditional banks remain dominant, disruptions like these accelerate financial innovation.
Lessons Learned from Recent Bank Collapses
1. Stronger Risk Management Is Essential
Banks must improve how they manage interest rate risks, liquidity, and asset concentration. Poor risk planning was a major factor in the collapse of SVB and Credit Suisse.
2. Diversification Matters
Banks that were too dependent on a single sector (tech, crypto, or real estate) faced severe stress when those industries struggled. A well-diversified loan portfolio is crucial for stability.
3. Regulations Must Be More Effective
While regulations exist, recent failures show that they are not foolproof.
- Regulators need to monitor mid-sized banks more closely, not just global giants.
- Stress tests should include more extreme scenarios, especially for banks with high exposure to volatile sectors.
4. Customer Confidence Is Everything
A bank may have strong financials on paper, but the moment depositors panic, a bank run can destroy it overnight. Transparent communication and crisis management strategies are key to preventing mass withdrawals.
5. The Role of Central Banks Is Evolving
Central banks can no longer focus only on inflation and employment—they must also maintain financial stability. The swift intervention during the 2023 banking crisis showed that liquidity support is crucial in preventing widespread contagion.
Conclusion: Are Banks More Secure Now?
The banking sector has faced serious challenges over the past year, but it has also provided valuable lessons for financial institutions, regulators, and investors. While banks have adjusted their risk models and central banks have improved their response mechanisms, the financial system is still vulnerable to unexpected shocks.
For businesses and individuals, diversifying assets, staying informed about financial stability, and being cautious with where money is stored are key takeaways. The collapse of major banks is a reminder that even the biggest institutions can fail—and the global economy must be ready to adapt.
