The collapse of Silicon Valley Bank (SVB) has sent shockwaves throughout the global economy. SVB was the parent bank that focused on tech startups, and its failure announced on Friday, 10 March is the biggest since the 2008 financial crisis.

Just over a year ago, Silicon Valley Bank held over US$200 billion in assets and was being hailed as the leading bank of the venture capital industry. But what are the reasons behind the collapse of SVB, and will they trigger a domino effect on the global economy?

Surging VC Funding & Net Interest Margin

The levels of venture capital funding exploded between 2019 and 2021, meaning that startups were getting a ton of cash and subsequently depositing it with Silicon Valley Bank, which had been around for over 40 years at this point and was widely viewed as one of the most stable, trustworthy banks for startups and VCs. According to Morning Brew, SVB’s deposits went from roughly US$60 billion in 2018 to US$189 billion in 2022. 

But banks need to profit, too. This increase in deposits presented an opportunity for SVB to make money through what is known as ‘net interest margin’.

Net interest margin is a common way for banks to generate revenue. It’s when they offer a low interest rate on savings accounts, and then invest that money into different forms of investment that provide a higher return, keeping the difference as their profit. 

SVB had all of these deposits, and in order to generate a return (with interest rates still at almost 0% back then), they reportedly placed US$80 million of the US$189 billion into long-term mortgage-backed securities. These securities were reportedly paying a yield of around 1.5%, leaving SVB with a healthy net interest margin.

The Liquidity Crisis

However, the bank’s reliance on long-term mortgage-backed securities to generate returns on deposits created a potential risk for the bank. The securities were long-term liabilities being used to secure short-term deposits, which were purchased at a time when interest rates were at all-time lows. This move helped SVB to maintain a healthy net interest margin, but it also created risks for the bank when federal interest rates were raised to at least 4.5%, up from near zero percent just a year ago.

The bank’s risk management oversights, coupled with macroeconomic factors and rumors, triggered a bank run on its deposits. As the news of the bank’s potential collapse spread, customers started to withdraw their deposits, which created a liquidity crisis for the bank. The stock crashed 60% through Thursday last week, and was then halted on Friday after falling another 69%. By midday Friday, regulators had closed SVB down, the Federal Deposit Insurance Corp. (FDIC) had taken over its branches, and it had officially collapsed.

Impact on Fintech, Crypto and the Global Economy

The downfall of SVB has had a significant impact on the global economy, especially on the tech and startup ecosystem. The bank was a crucial platform for startups, and it played a pivotal role in serving the startup community and supporting the innovation economy in the US. Many startups had their deposits with SVB, and the collapse of the bank has created uncertainty in the startup ecosystem.

The impact of the collapse of SVB is not limited to the US, with financial institutions and fintechs across the UK, Canada, Singapore, India, Hong Kong and China feeling the reverberations. In India, fintech and venture capital firms such as Recur Club, Razorpay, and Trifecta Capital have come to the aid of Indian startups caught in the crossfire of the Silicon Valley Bank fiasco. These firms are offering support to the affected startups, and this move is seen as a sign of solidarity within the global startup ecosystem.

At least 11 Hong Kong startups, mostly in biotech, are impacted with the Hong Kong Monetary Authority (HKMA) saying they are monitoring the situation. Investment banks from China and Japan including the Shanghai Pudong Development Co, SoftBank Group Corp’s SoftBank Vision Fund, and Sumitomo Mitsui Trust Holdings all had varying levels of interests tied up with Silicon Valley Bank.

SVB’s UK unit was declared insolvent shortly after reassuring depositors last Saturday, but has since been purchased by HSBC for one pound. In Australia, accounting software fintech Xero Ltd. said it had about AU$5 million (approximately US$3.3 million) exposure in SVB US and UK, where it had local transactional banking relationships.

Seeking to stem the spread of the banking crisis, two crypto-friendly banks Silvergate and Signature Bank were also liquidated over the past weekend. Depositors at both SVB and Signature have since been assured of receiving full access to their deposits by regulators.

Many lender fintechs including Revolut and Wise reported surging interest in their deposit products as startup founders and investors liquidated their SVB holdings. Meanwhile, US$3.3 billion worth of Circle’s USDC stablecoin reserve deposits held at Silicon Valley Bank (about 8% of the USDC total reserve) will be fully available when US banks opened on Monday, 13 March morning. No USDC cash reserves were held at Signature Bank. USDC remains redeemable at 1:1 with the US Dollar as a regulated payment token, according to a statement by Circle.

Regulatory Course Correction

The collapse of SVB has also raised questions about the regulatory oversight of banks and financial institutions. The California Department of Financial Protection and Innovation closed SVB and named the FDIC as the receiver. The FDIC has created the Deposit Insurance National Bank of Santa Clara, which now holds the insured deposits from SVB. The collapse of SVB highlights the need for better regulatory oversight to prevent such incidents from happening in the future.

The US Federal Reserve has announced that it will make additional funding available to eligible depository institutions to help assure banks have the ability to meet the needs of all their depositors. The additional funding will be made available through the creation of a new Bank Term Funding Program (BTFP), offering loans of up to one year in length to banks, savings associations, credit unions, and other eligible depository institutions. 

These institutions will pledge US Treasuries, agency debt, mortgage-backed securities, and other qualifying assets as collateral. These assets will be valued at par. The BTFP will be an additional source of liquidity against high-quality securities, eliminating an institution’s need to quickly sell those securities in times of stress.

This move by the Federal Reserve is aimed at preventing a repeat of the liquidity crisis that caused the collapse of SVB. By making additional funding available to eligible depository institutions, the Federal Reserve is trying to ensure that banks have the ability to meet the needs of all their depositors. This move is seen as a proactive measure by the Federal Reserve to prevent the spread of the fallout from the collapse of Silicon Valley Bank.

Featured image credit: Edited from Unsplash