Could 'Too Big To Fail'...Fail?

Things tend to be a bit clearer in hindsight. And now that several months have passed, the Silicon Valley Bank collapse seems a bit clearer, too.

Silicon Valley Bank, or SVB, was the 16th largest bank in the country as of the beginning of this year. But by mid-March, it was an insolvent mess that had to be sorted out by state regulators and the federal government. 

The official word was that the SVB collapse was the result of mismanagement. This was true, of course - the bank had absorbed too much cash too quickly, dumping its excess liquidity into government bonds which were then devalued by rising interest rates. The people in charge should have known better than to expose themselves to such a high level of interest rate risk.

But the SVB collapse didn't happen in a vacuum. And not everyone agrees about the precedent set by the Fed, either. In this article, we'll re-examine the SVB collapse, the Fed’s response, and what it means for the economy going forward. 

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A Little Bit Overexposed

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Silicon Valley Bank didn't travel the path to becoming the biggest bank failure since 2008 overnight, but rather in Hemmingway fashion: gradually, then suddenly.

Years of easy credit and billion-dollar tech deals throughout the 2010's meant tons of cash flowing into this moderately-sized regional institution. Struggling to find a place for all this liquidity, the bank bought government bonds with depositor cash, not anticipating a need for the cash before the maturity date of the bonds. In an era of almost-free money, any small return is enough, but bank management apparently didn't account for the possibility of rates actually going up.

And why would they? Most of SBV’s bonds were acquired during the easy-money era of the post-2008 economy, when interest rates were held at near-zero for years and it felt like the party would never end. 

But it did end, and in spectacular fashion: the pandemic hit, global trade ground to a halt, and the Fed pumped trillions in stimulus money into the ailing economy. Then, in 2022, the Fed raised rates to control inflation, and the market value of SVB's bonds tanked, forcing the bank to sell the bonds at a loss when they needed access to additional cash. 

It certainly didn't help that this bond fire-sale spooked big investors and depositors, triggering a $42 billion bank run in one day.

The Aftermath

Thanks to the FDIC, which temporarily lifted its $250,000 limit on deposit insurance to maintain confidence in the banking sector, SBV’s depositors made it through the debacle unscathed. A hasty deal was orchestrated by state and federal regulators for First Citizen’s Bank to take over SBV, and broader economic damage was successfully mitigated. 

 But even so, many experts were perturbed by the Fed’s response and the precedent it set. 

According to some, the Fed's response was just another bailout in a long series of protective actions aimed at preserving the ‘too big to fail’ mentality. Although the FDIC limit on deposit insurance is $250,000, this was lifted during the SBV collapse, often to the tune of billions of dollars. 

Take a recently (and accidentally) released document from the FDIC, which shows that major companies like Sequoia Capital, Roku, and Chinese firm Kanzhun were among those whose deposits were saved by the FDIC exceeding its own regulatory framework. These companies held billions of dollars at SVB, and not everyone was happy with them being saved.

For example, many accuse the Fed of bailing out SBV. While this isn’t technically the case - the bank was allowed to fail, after all - it is certainly true that the Fed took emergency measures to deploy huge sums of money in order to maintain stability in the financial sector. The whole ordeal reeks of ‘too big to fail’ thinking.

So, bailout or no, the message is clear - the people in charge are going to do whatever it takes to stop people from losing confidence in the system, no matter how many billions of dollars they have to conjure out of thin air at the taxpayer’s expense. 

That much is obvious. But what isn’t so clear is this: what happens if the SBV collapse isn’t an isolated incident? And how long until the money the Fed throws at all its problems just isn’t worth much any more?

Could 'Too Big To Fail' Fail?

It’s no secret that the law of diminishing returns applies to federal stimulus money just as much as anything else. In fact, this phenomenon has been very clearly observed: every dollar of federal stimulus has less of an effect on real economic activity than the last. 

And boy has there been a lot of federal stimulus lately. In the U.S. alone, the total amount of pandemic stimulus money exceeded $5 trillion - a colossal sum compared to the $152 billion issued in response to the 2008 crisis, which, by the way, was considered an exorbitant amount by many at the time. 

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By comparison, the $22 billion required to make SBV’s depositors whole is a fairly paltry amount. After all, we’ve become so accustomed to trillion-dollar stimulus bills that any number with less than 12 zeros at the end doesn’t seem like much.

But it is. It’s a lot. And sooner or later, it’s all going to add up.

Living In La La Land

Of course, to hear it from the people at the top, everything is fine and dandy. Sure, there’s been some inflationary pressure, and sure, the cost of living for average people has risen just a tad. But who cares? Markets are up, unemployment is down, and the banking sector is stable. The system is working as intended. 

We at Farmfolio - and many in our network - are a bit more skeptical. We’re not interested in pretending that it’s possible to shut down economic activity on a global scale for an extended period of time while simultaneously printing trillions of dollars, all without incurring significant long-term consequences.

The SVB collapse may not have been an isolated incident: it may be just the tremors of something much larger. And if that’s true, you and your portfolio need to be prepared. Use the button below to schedule a session with Farmfolio’s team to learn how you can build a more resilient portfolio through farmland ownership. 

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