New Research Reveals Potential Risk to Insured Depositors in Nearly 190 US Banks

Research by scholars has revealed that the recent rise in interest rates has left almost 190 banks in the US potentially at risk of impairment to insured depositors.

The study, which analyzed US banks’ asset exposure, found that 10% of banks have larger unrecognized losses than those at Silicon Valley Bank (SVB), which recently failed. This means that if even half of uninsured depositors decide to withdraw, almost 190 banks are at risk of insolvency, potentially putting $300 billion of insured deposits at risk.

The study also revealed that the US banking system’s market value of assets is $2 trillion lower than suggested by their book value of assets accounting for loan portfolios held to maturity. This is due to marked-to-market bank assets declining by an average of 10% across all banks, with the bottom 5th percentile experiencing a decline of 20%.

Uninsured leverage (i.e., Uninsured Debt/Assets) was identified as the key to understanding whether these losses would lead to some banks in the US becoming insolvent. Unlike insured depositors, uninsured depositors stand to lose a part of their deposits if the bank fails, potentially giving them incentives to run. A case study of SVB showed that losses and uninsured leverage provide incentives for an uninsured depositor run. SVB was not the worst capitalized bank, with 10% of banks having lower capitalization than SVB. However, SVB had a disproportional share of uninsured funding, with only 1% of banks having higher uninsured leverage.

The researchers computed similar incentives for the sample of all US banks. Even if only half of uninsured depositors decide to withdraw, almost 190 banks are at risk of impairment to insured depositors, with potentially $300 billion of insured deposits at risk. If uninsured deposit withdrawals cause even small fire sales, substantially more banks are at risk. Overall, these calculations suggest that recent declines in bank asset values have significantly increased the fragility of the US banking system to uninsured depositor runs.

The study’s findings highlight the importance of monitoring the banking system’s vulnerability to uninsured depositor runs, particularly in the context of monetary tightening. It also underscores the need for policymakers to take measures to mitigate potential risks to the financial stability of the US banking system.

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