Anyone who thinks the banking crisis is over has never lived through one. This is my tenth, starting with Herstatt. And this one is just getting started, despite all the happy talk that the crisis is over.

Let’s dive in…

The litany of recent bank failures has become all too familiar. It began in early March with the bankruptcy filing of Silvergate Bank. Silvergate was not just another commercial bank. It was a traditional FDIC-insured bank, but it was also heavily involved in the cryptocurrency world.

It was known as a crypto bank that would lend to crypto exchanges and crypto hedge funds and act as a portal between the dollar system and cryptocurrencies. Silvergate was a casualty of chaos in the crypto markets that began with the 76% collapse of Bitcoin prices between November 2021 and November 2022.

It then soon spread to the failures of Three Arrows (a crypto hedge fund), Genesis (a crypto exchange), USDC (a stablecoin that “broke the buck” and fell to $0.83) and the mother of all crypto scams, FTX, which may be the greatest financial fraud in history.

You remember that, right? It seems so long ago in light of more recent developments.

Silvergate was the carrier that spread the crash virus from crypto to traditional banks. The next victims were Silicon Valley Bank, Signature Bank and Credit Suisse. More are on the way.

SVB Means Big Trouble

The magnitude of the failure of Silicon Valley Bank (SVP) in particular can hardly be overstated. This was the largest bank failure since Washington Mutual during the global financial crisis in 2008.

Initially, over $100 billion in bank deposits were vaporized by the Federal Deposit Insurance Corporation (FDIC) on Friday, March 10 only to be reinstated 48 hours later on Sunday, March 12.

As you probably know by now, this completely demolished the $250,000 limit on insured deposits that the FDIC is allowed by law to protect. Never mind.

The Federal Reserve, U.S. Treasury, FDIC, and the White House together declared a systemic emergency, which allowed the FDIC to protect the full amount of deposits.

Some companies had over $3 billion on deposit with FDIC. SVB depositors included major corporations such as Cisco, Roku, Vox and many other giants of Silicon Valley.

Don’t Forget the Politics

These Silicon Valley giants were all protected even as citizens in East Palestine, Ohio, received little or no aid after a train crash that led to the creation of a mushroom cloud of toxic chemicals and dioxins in the water.

Let’s face it: It didn’t hurt that the SVB depositors were mostly Democrats. It didn’t help that the residents of East Palestine were mostly Republicans. That’s just how the White House rolls. That kind of political favoritism isn’t new, by the way.

During the New Deal, federal aid to states often depended more on political calculations and electoral politics than on actual need.

In any case, the lead regulator of SVB is the Federal Reserve. In addition to the failures of risk management inside SVB, there were clearly massive failures of regulatory oversight by the Fed.

In true Washington style, the Fed has done nothing to terminate or discipline the officials responsible for this failure, starting with Michael Barr who is the Fed’s vice chair for supervision. Why was Barr not removed from office immediately after this historic failure?

Washington is the one place where people fail upward.

“Hey, We Knew It All Along!”

Instead, the Fed has ginned up its PR machine by pretending it was on the case all along.  “Silicon Valley Bank’s risky practices were on the Federal Reserve’s radar for more than a year” prior to the “bank’s demise,” The New York Times says. Really?

Those practices included “doing a bad job of ensuring that it would have enough easy-to-tap cash.” SVB was also rated by the Fed as “deficient for governance and controls.” So what happened next?

The answer of course is nothing. The Fed sent a few warning letters and that was it. Why was the bank not taken over when these cash and control defects were spotted? At a minimum, why was management not replaced and immediate remedial steps implemented?

Again, the Fed is trying to spin these warning letters as showing they were on the case. In fact, they show the opposite. The impression is one of bureaucrats going through the motions and doing nothing of substance.

In the middle of this bank run was the strange case of First Republic Bank…

Yes, It’s a Bailout

First Republic is clearly under financial stress due to fleeing depositors and underwater long-duration assets. But it has not technically failed. Instead, it was rescued by a consortium of 11 solvent banks putting up cash to bolster First Republic’s liquidity.

The banks were JPMorgan Chase, Citi, Bank of America, Wells Fargo, Morgan Stanley, Goldman Sachs, PNC Financial Services, U.S. Bancorp, Bank of New York Mellon, State Street, and Truist Financial (formerly SunTrust). They put up a total of $30 billion.

Although the Fed was overseeing this rescue, all of the funds were from private banks. So technically it was not a government bailout. Interestingly, this rescue bears a close resemblance to the 1998 rescue of the hedge fund Long Term Capital Management (which I negotiated).

That rescue was also encouraged by the Fed but was actually conducted with private funds. The money came from a consortium of 14 banks, including at least seven of the banks in the First Republic rescue.

Both the First Republic rescue and the Long Term Capital rescue were based on John Pierpont Morgan’s rescue plan devised during the Panic of 1907. To this day, that’s still the best playbook if you want to end a financial panic without using government money.

Delaying the Inevitable

Still, there’s one critical difference between Long Term Capital and First Republic when it comes to rescues.

The Long Term Capital rescue was all capital, no debt. The First Republic rescue is all debt and no capital. Huge difference.

That means it’s not really a rescue; it’s just a cash bandage. That can buy time, but it’s not the end of the crisis. They just delayed the day of reckoning, that’s all.

Banking crises move in multiple stages with some quiet periods between. Don’t let those quiet times lull you into a state of complacency.

You’ll be hearing more about a real First Republic bailout in the days ahead. And it won’t be the last.

The Daily Reckoning