It is the season for revelations. Stablecoins, the mechanism which enables investment in crypto assets, has been found to be, well, not stable. Savings are as safe as the landscape of banking. Banks are bankable till circumstances render them non-bankable. Ratings and rankings matter little when there is a run on the bank.
On March 7 the Silicon Valley Bank (SVB) was ranked among America’s Best Banks. SVB took to Twitter with a celebratory tweet “Proud to be on @Forbes' annual ranking of America's Best Banks for the 5th straight year”. Four days later the bank collapsed and was shut down. Regulators appointed the Federal Deposit Insurance Corporation (FDIC) as the receiver for disposal of assets. The bottom line: anyone with more than $250,000 is now joining the queue of hopefuls.
The ides of March are knocking at the portals of global markets. SVB is/was the 16th largest bank in the United States – with assets worth over $ 209 billion it was as big as the biggest private sector bank in India. The scale and speed of the collapse triggered tremors of fear across global markets as savers and investors flagged questions and worried about the possibilities of a contagion effect.
The spectre is caused by events. SVB’s collapse was preceded by another bank -- Silvergate Capital. The sequence and fears manifested in the slide of bank stocks in the US and elsewhere. On Friday Janet Yellen, US Treasury Secretary chose to observe that she is monitoring a few banks “very carefully.” The authorities have been at pains to underline the resilience of banks and the robustness of regulation. That said, the fact that it happened, in the post Dodd-Frank Act era, raises questions about connected capillary consequences.
It is arguable that the positioning of SVB was unique – in that, it had very few branches and served as a bank for the world of start-ups and private equity institutions. Its collapse though was by no means unique. Shorn of all the jargon, the bank was left with an asset-liability mismatch as the money parked in fixed-income market instruments lost value. It borrowed to bridge the gap – including, peculiarly, USD 15 billion from the Federal Home Loan Bank of San Francisco set up to guard mortgage markets (interestingly it lent money to Silvergate too). The loans didn’t help. It was simply a case of the bank not having the money when its depositors asked for it.
What is instructive is the arrangement of factors that led to its collapse. For a decade and more the US and developed economies revelled in a low-interest regime -- indeed through these years debt paper worth roughly USD18 trillion recorded negative returns. This was followed by the post-pandemic stimulus packages. What was a low-cost regime virtually turned into a no-cost regime! This led to a rise in leveraged borrowings and attendant excesses. Money made a beeline to fancy and risky areas for returns – in crypto assets where valuations led by Bitcoin touched $ 3 trillion, in real estate and in enterprises based on a burn-cash business model.
March 17 makes it one year in the current rate hike cycle when the US Federal Reserve hiked rates by 0.25 per cent post the pandemic. In the past 12 months, the US Federal Reserve hiked rates eight times triggering a global rate race. The rapid rate hikes didn’t quite stem inflation but it sure has inducted systemic fragility. The faultlines in business models and investment strategies are yet unravelling and the exodus of money from ventures is embedded with consequences.
Explorations of explanatory phraseology are worth attention. The notion of ‘transitory inflation’ is now morphing into ‘transitory recession’. Meanwhile, interest rates are expected to stay higher for longer and could well touch nearly 6 per cent in the US and 4 per cent in Europe. The emerging scenario has salutary lessons for India and other developing nations which are caught in the swirl of developed world inflation and retrospective rationale.
The rising cost of money impairs the ability of venture capital funds in the US and elsewhere. This has implications for India’s start-up ecosystem. The evolution of a start-up into a unicorn rests on the business model but also critically on the sequential glide path for funding to grow into a sustainable entity. Already there are growing signs of what is dubbed as “desertification” of funding which have triggered fears of zombie start-ups. The fall in valuations and stock markets also deters exits for funds – and this is exacerbated by the poor post-IPO record of start-ups.
At a macro level the emerging high-cost low growth spectre impacts global consumption and therefore trade, foreign direct investment and portfolio flows is manifest. This could get worse if the episodes in the US financial markets trigger a contagion. Sure, the jury is yet out but a systemic risk is typically illuminated only whence it becomes one. You know a contagion only when it arrives with a definition.
Gordon Gekko may have immortalised the line “greed is good” in the cinematic avatar of Wall Street but fear is just as primordial a sentiment and has no bottom. “Beware the ides of March,” said the soothsayer in Shakespeare’s Julius Caesar.