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What caused Silicon Valley Bank’s failure?

GS Paper 3

Syllabus: Indian economy and related issues

 

Source: IE

Context: The downfall of the US-based Silicon Valley Bank (SVB) is the largest failure of a financial institution since the global financial crisis of 2008.

 

What went wrong at SVB?

  • The financial institution best known for its relationships with high-flying world technology startups and venture capital experienced a bank run.
  • A bank run, which is typically the result of panic (customers withdraw their deposits simultaneously) rather than true insolvency, pushes a bank into actual insolvency.
  • Bank runs have occurred throughout history including during the Great Depression and the 2008-09 financial crisis.

 

What happens next?

  • The SVB’s large deposits (startups and wealthy tech workers) are unsafe.
    • The Federal government insures deposits to $250,000 and anything above it is considered uninsured and likely to be released in an orderly process.
    • But many businesses want to access funds to meet payroll and office expenses → could lead to furloughs/layoffs.
  • There’s no buyer of SVB.

 

Is this a sign of a repeat of the 2008 global financial crisis?

  • SVB was large but had a unique existence by servicing nearly exclusively the technology world and VC-backed companies.
  • Other banks are far more diversified across multiple industries, customer bases and geographies and could survive a deep recession and a significant rise in unemployment.
  • However, if the ‘contagion effects’ from SVB or higher interest rates hit more foreign banks, a flight to safety among global investors could hit capital flows into emerging markets.
    • The contagion effect explains the possibility of the spread of economic crisis or boom across countries or regions.
    • The fundamental underlying this scenario where price movements in one market are resultant of shocks or volatility in the other market is a perfect information flow.

 

Impact on the Indian economy?

  • Many Indian start-ups [especially in the SaaS (software as a service) sector] not only have accounts, but the bank had also been an important lender.
  • For example, an investment of a total of $1.7 million in One97 Communications, the parent company of Paytm.
  • As the funding for start-ups is dwindling, this could prove to be a major roadblock, especially for young businesses.
  • The flight of capital could also impact the

 

Insta Links:

Ten years on, in uncharted waters

 

Prelims Links: (UPSC 2020)

If another global financial crisis happens in the near future, which of the following actions/policies are most likely to give some immunity to India?

  1. Not depending on short-term foreign borrowings
  2. Opening up to more foreign banks
  3. Maintaining full capital account convertibility

Select the correct answer using the code given below :

  1. 1 only
  2. 1 and 2 only
  3. 3 only
  4. 1, 2 and 3

 

Ans: 1