Bank Runs. The First Sign The Fed “Broke Something.” By Lance Roberts

Bank runs are an ever lurking possibility in a fractional reserve banking system. From Lance Roberts at

With the collapse of Silicon Valley Bank, questions of potential “bank runs” spread among regional banks.

“Bank runs” are problematic in today’s financial system due to fractional reserve banking. Under this system, only a fraction of a bank’s deposits must be available for withdrawal. In this system, banks only keep a specific amount of cash on hand and create loans from deposits it receives.

Reserve banking is not problematic as long as everyone remains calm. As I noted in the “Stability Instability Paradox:”

The “stability/instability paradox” assumes that all players are rational and such rationality implies an avoidance of complete destruction. In other words, all players will act rationally, and no one will push “the big red button.

In this case, the “big red button” is a “bank run.”

Banks have a continual inflow of deposits which it then creates loans against. The bank monitors its assets, deposits, and liabilities closely to maintain solvency and meet Federal capital and reserve requirements. Banks have minimal risk of insolvency in a normal environment as there are always enough deposit flows to cover withdrawal requests.

However, in a “bank run,” many customers of a bank or other financial institution withdraw their deposits simultaneously over concerns about the bank’s solvency. As more people withdraw their funds, the probability of default increases, prompting a further withdrawal of deposits. Eventually, the bank’s reserves are insufficient to cover the withdrawals leading to failure.

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