The US Banking Crisis Deepens as Interest and Liquidity Risks Take Center Stage

The US Banking Crisis Deepens as Interest and Liquidity Risks Take Center Stage

The US banking crisis has been ongoing since 2022, and experts suggest that the situation is only beginning. Recent bank failures, including those of Silicon Valley Bank and Signature Bank, highlight two major risks facing lenders: interest rate risk and liquidity risk.

Interest rate risk is a concern when rates rise rapidly in a short period, as seen in the US since March 2022, with the Federal Reserve aggressively raising rates to combat inflation. As yields on securities go up, their prices go down, causing market values to plunge, especially for longer-dated debt. Banks that have invested heavily in fixed-income securities, such as US government bonds, are particularly vulnerable.

Liquidity risk, on the other hand, is the risk that a bank will be unable to meet its obligations when they come due without incurring losses. This was a significant problem for Silicon Valley Bank and Signature Bank, with customers withdrawing deposits beyond what the banks could pay using their cash reserves. The banks had to sell securities portfolios at a loss, which led to equity capital drain and efforts to raise new capital, causing a run on the banks.

While the US government has decided to backstop all deposits of SVB and Signature regardless of their size, the crisis is far from over. With over $1 trillion of bank deposits currently uninsured, banks with less cash and more securities on their books could face a liquidity shortfall due to massive withdrawals driven by sudden panic.

The US banking industry has been sitting on record levels of excess reserves, but the banking crisis persists due to interest rate and liquidity risks. This highlights the need for banks to reevaluate their investment strategies and focus on diversification and risk management to avoid future failures. With the US Federal Reserve expected to continue raising rates to combat inflation, the banking industry must be prepared to navigate the challenges ahead.

US banking crisis is ongoing, with recent bank failures highlighting two significant risks facing lenders: interest rate risk and liquidity risk. While the US government has stepped in to backstop all deposits of failed banks, the crisis is far from over, with over $1 trillion of bank deposits currently uninsured. Banks must focus on diversification and risk management to avoid future failures as the US Federal Reserve continues to raise rates.