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Banks on the brink of bailouts. How bitcoin provides a sound… | by SatoshiLabs | Mar, 2023

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Despite widespread reforms following the 2008 financial crisis, American banks face new bailouts.

Image of a loudhailer with the text “Banks on the brink of bailout”

Just over a decade since the mortgage crisis led to one of the largest economic recessions in history, bitcoin’s reason for being has once again been thrown into the spotlight. On the brink of another global economic crisis, let’s take a look at how and why one bank’s financial mismanagement proves the the need for bitcoin, and why it’s best to bank on yourself by holding your money in self-custody, safe on a Trezor.

The sudden catastrophic collapse of Silicon Valley Bank (SVB) brewed up a storm in mainstream financial media over the weekend. Until last week it had been the 16th largest bank in the USA, but poorly-managed interest rate risk, and a reduction of banks’ reserve requirements, led to the SVB needing to sell off assets, which in turn signaled to depositors that the bank’s position may not be as stable as they had believed. This triggered a bank run which SVB was unable to cover, having a large portion of its assets tied up in long-term bonds which could not be cashed out without taking an unplanned loss.

While the headlines today portray a shocking story which “no-one could have predicted”, the truth is that this event is much the same as has happened in the past: banks mismanaged user deposits by relying on fractional reserves (holding only a portion of customer deposits as cash), and failed to account for worst-case scenarios such as the global pandemic. The inflation crisis sparked by the pandemic has been attributed as one of the root causes for SVB’s collapse, since the bank had bought long-term assets based on pre-pandemic rate predictions and is now heavily under water, along with much of the US banking sector.

Yet, even without the external effects of the pandemic, SVB’s collapse can also be tied to the financial system not making enough significant changes since 2008, if anything it’s been managed even worse, with more money printing, less predictable monetary policy, and more moral hazard. The current fragility of the sector means it doesn’t take much to trigger a crisis.

Banking bailouts and the systemic financial mismanagement are endemic to the fiat economy. Inscribed in bitcoin’s very first block is a headline taken from The Times newspaper, “Chancellor on brink of second bailout for banks”, because corrupt officials have long manipulated the economy at the expense of citizens who foot the bill for bailouts and who endure the financial hardships that come in the wake of collapse. Bitcoin stands to eliminate the practice of fractional reserve banking, by eliminating the need to trust deposits to a third party at all.

After the collapse of SVB, opinions were split when it came to deciding whether to bail it out or to let it collapse completely, where most deposits would be lost as they exceeded the $250,000 FDIC insured amount. Ultimately, the risk that SVB’s collapse would cause bank runs at other smaller banks led to a bailout being agreed upon by Monday morning, even for deposits above the insured amount, though those behind the decision are attempting to not describe it as a bailout.

More positive headlines have already come to light claiming the “US banking system is safe”, but fail to highlight the systemic risks that led to the collapse, instead pointing to the newly-established Bank Term Funding Program, which aims to make it easier for banks to borrow money in a crisis, without making any attempt to fix the root causes.

What the future holds is yet to be seen. While the bailout may serve its purpose and prevent further bank runs, it is likely that small banks will see customers move their accounts to larger banks now that the risks have been shown, as there is no incentive that might offset that risk. The major downside of this is that it further centralizes the banking system and adds further risk, should those ‘too big to fail’ institutions collapse in future.

This entire saga underscores bitcoin’s use case as a neutral, decentralized monetary system where bailouts are simply not possible and nobody is forced to carry the costs for the irresponsible actions of a few bank executives. Under a bitcoin standard, inefficient and corrupt institutions would be soon priced out of the market and replaced by more efficient and responsible actors.

Cryptocurrency had nothing to do with SVB’s collapse. A number of crypto-related companies were clients of the bank, such as the notorious Sequoia Capital, one of FTX’s investors, but the underlying cause of the issue was deeply ingrained in the banking system.

It was SVB’s illiquid portfolio — of government bonds — and their reckless approach to reserves that caused the collapse, as the bank didn’t have enough cash on hand to cover several large withdrawals and was forced to sell longer-term assets to cover them, unintentionally revealing to external observers that the bank was having trouble managing its funds.

While crypto and bitcoin companies did not cause this issue, they will feel its effects. There are very few banks in the USA that offer their services to crypto companies, and SVB was one of them. This crisis will make it more difficult for projects to find banking partners, which, combined with the ongoing bear market, could spell the end for many.

The story is not yet resolved, so it is yet to be seen how the economy will react, and whether the government intervention will have it’s desired effect of preventing ‘contagion’ that could spread to other banks. What’s certain is that the measures put in place to protect investors following the last financial crisis have not done their job. The system, built on printed money with no backing, is not robust and can not support indefinite expansion without causing severe economic harm, especially to the purse of the regular public.

Continuing to trust in a system which regularly fails is reckless. While large tech companies have little choice but to rely on a bank as part of everyday operations, you as an individual have no such obligation. With bitcoin, you can opt out and choose a fairer system where bailouts and inflation are prevented by design.

As a self-custodial solution, Trezor users manage their own assets completely independently. Fractional reserve banking is simply not possible with bitcoin held in self-custody so Trezor users can’t be affected by the events which are currently unfolding. The same cannot be said for centralized exchanges, where there is always a risk that deposits are not backed, as was the case with FTX, who held less than 1 bitcoin to cover more than a billion dollars’ worth of liabilities.

As inflation continues to pick up pace, the effects of a banking crisis will only make it worse. The money to bail out SVB has to come from somewhere, and if the taxpayer doesn’t foot the bill directly, they may still pay for it indirectly through knock-on effects leading to further increase of the money supply, resulting in more inflation and eroding your purchasing power. Thirty percent of all dollars in existence were printed in the last few years, meaning your savings have lost a third of their value since 2020. SVB is just another stark reminder to start using bitcoin today, or watch your wealth be diluted to nothing.



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