A Silicon Valley Bank office is seen March 14, 2023 in Tempe, Arizona.
Rebecca Edel | AFP | Getty Images
The panic-driven customer withdrawals the imploded Silicon Valley Bank and Signature Bank—sending shockwaves through financial markets and the broader banking system—offer an acute lesson in human psychology.
In this case, an understandable “behavioural bias” led to poor financial results, experts said.
“Psychology brings a lot of extra risk into the world,” said Harold Shefrin, behavioral finance expert and finance professor at Santa Clara University. “And we saw that risk last week — from Silicon Valley Bank and the reactions of its depositors.”
Customer fear became a self-fulfilling prophecy
Our brains are hardwired for a bank run.
Humans have evolved to be social creatures that thrive in groups, said Dan Egan, vice president of behavioral finance and investing at Betterment. As such, we care deeply about what others think and do.
Read more about CNBC’s coverage of the banking crisis
Why the bank run on the SVB seemed “rational” to some
There are firewalls against this kind of behavior. The Federal Deposit Insurance Corp. or FDIC protects bank customers’ savings up to $250,000.
This insurance program was established in 1933. Back then, widespread hysteria during the Great Depression had brought thousands of banks down in quick succession.
FDIC insurance aims to inspire confidence that the government will make customers whole — up to $250,000 per depositor, per bank, per category of property — if their bank goes bust.
“Prior to the formation of the FDIC, large-scale cash demands from fearful depositors were often the killing blow to banks that might otherwise have survived,” says a chronicle of the agency’s history.
SVB’s client base included many corporates, such as tech startups, with a high proportion of uninsured deposits (ie those valued over $250,000). About 95% of the bank’s deposits were uninsured as of December, according to SEC filings.
Its failure illustrates some principles of behavioral finance.
One is “information asymmetry,” a concept popularized by economist and Nobel laureate George Akerlof, Shefrin said. Akerlof, Treasury Secretary Janet Yellen’s husband, analyzed how markets can collapse in the presence of asymmetric (or unequal) information.
His 1970 essay “The Market For Lemons” focuses on the market for old and broken used cars (colloquially called lemons). But information asymmetry applies to many markets and was a source of the collapse of Silicon Valley Bank, Shefrin said.
The bank said March 8 it was selling $21 billion worth of securities at a loss and trying to raise money. This announcement sparked a panic that was amplified by social media. Customers saw colleagues rushing to the exits and didn’t have the time (or perhaps the acumen) to study the bank’s financial statements and assess whether the bank was in distress, Shefrin said.
Rational market theory predicts that customers with uninsured deposits – the bulk of their customers – would move to protect themselves and secure their savings, he said.
Psychology brings a lot of extra risk into the world.
Finance Professor at Santa Clara University
“If you have more than $250,000 in the bank, you have to assume the worst for lack of information,” Shefrin said. “And unfortunately it becomes rational for you to participate.”
So bank run.
But the same rationality doesn’t necessarily apply to bank customers whose deposits are fully insured because they don’t run the risk of losing their money, experts say.
“If you have less than $250,000 and you don’t have a salary to pay or a family to support, there’s no need to rush,” said Meir Statman, behavioral finance expert and finance professor at Santa Clara University. “In this case, [withdrawing your money] is neither rational nor wise.”
Bank employees also displayed a psychological “failure” in their initial announcement that they needed to raise money, Shefrin said. They didn’t understand the concept of “market signaling” and didn’t anticipate how their information delivery could spark a panic, he said.
“If you don’t rationally understand the way the market interprets signals, like Silicon Valley Bank, you can make a mistake,” Shefrin said.
Behavioral bias likely amplified a bank run
Fear among depositors also appears to have been fueled by behavioral bias, Egan said.
Stashing all deposits in a bank with like-minded tech founders could mean customers experiencing the same fears at the same time, kind of like an echo chamber, he said.
Splitting all savings that exceed $250,000 across multiple banks — so no account exceeds the FDIC insurance limit — is a rational solution to reduce stress and anxiety, Egan said.
The Biden administration stepped in on Sunday to allay depositors’ concerns. Regulators froze all uninsured deposits with SVB and Signature Bank and offered funding to troubled banks. Eleven Wall Street banks on Thursday injected $30 billion into First Republic Bank, a smaller player that appeared on the brink of collapse, in a bid to boost confidence in the banking system.
With the government’s recent bailout, there’s “no reason” depositors should be running out the door,” said Mark Zandi, chief economist at Moody’s Analytics.
“But confidence is a very fickle thing,” said Zandi. “It’s here today, gone tomorrow.”