Rewind: Banking Blues
A new volatile, uncertain, complex and ambiguous banking world is in
By S Ganesh Kumar
Hyderabad: Much has been said after the failure of Silicon Valley Bank (SVB) on March 10, 2023. The matter will be dissected in detail, and analysts and pundits will offer inputs, which may charter the course for future regulatory frameworks resulting in better risk management and the economic world of the day will continue to thrive.
Economic Progress
There can be no doubt about the definitive positive role played by banks in any economy. While there can be minor differences across different countries, it must be recognised that in the Gothenburg world of today, economic activity is substantially hinged around banks; apart from the key function of acceptance of deposits for the purpose of lending, banks perform a myriad of other critical functions — right from monetary transmission, trade facilitation, liquidity provision, credit extension and other critical components for economic activity. A healthy and robust banking system is thus an essential component for good economic activity and healthy growth of a nation.
Trust and Banks
Trust is at the base of banking operations. Depositors’ interest thus becomes an important requirement for safe banking. In India, trust in banks by depositors is at high levels compared with many other countries. The efforts of the Reserve Bank of India over many decades have resulted in the faith of ordinary citizens in banks. Thus, a failure like in the case of SVB is not within the perceivable radar of the ordinary banking public.
Perhaps the biggest jolt which negatively impacted the banking world over was during the global financial crisis of 2007-09. Then came the pandemic and almost all the economies of the world were affected. With the worst of the pandemic now being a thing of the past and with the general economic recession being witnessed in many parts of the world, the collapse of a major bank in the US has created waves.
Sensing that depositors’ trust in the banking system was fast ebbing, the regulators and the government in the US stepped in to assuage the depositors. The result: the deposits of SVB were guaranteed on March 12, 2023. While this may have a calming effect on the banking public, there is a lot to be done to restore the faith of the public in banks.
Banks and Regulatory Action
Action by regulators can be post-facto,ie, after certain events with the regulatory action being focused on mitigating the impact of such events, which will try to bring back the confidence of depositors. Macroeconomic policy-related compulsions, may, however, have their dampening effect as well. The recent rate hike, with the Federal Reserve hiking its short-term funds rate by 25 basis points — the eighth time in a row in the range of 4.75 per cent to 5 per cent — is aimed at managing inflation.
While this is a necessity, this will have an impact in the aftermath of a bank collapse. Coupled with the fact that other central banks the world over are also hardening their stance on macroeconomic policies and mostly centred around tackling inflation, the pressures on them to reinforce depositors’confidence in banks will only increase.
The slowdowns witnessed and the tightening of the activities of startups in most parts of the world are all factors which act as challenges for the banking sector
Environmental Factors
The world economy is now at a crossroads. There are positive indicators as well as challenges to be addressed. Environment shocks in the form of global unrest and wars have to be tackled; the growth of new sectors revolving around technology and the well-marked role of startups are positive factors for banks. All is, however, not well in this sector — the problems faced by startups (this is of particular relevance to SVB in view of its client base), the slowdowns witnessed and the tightening of the activities of startups in most parts of the world are all factors which act as challenges for the banking sector, which has witnessed a fillip from these sectors.
Mushrooming Fintechs
The growth of fintechs, especially in India, in providing newer types of products and services has been phenomenal. While the customer has been the ultimate beneficiary of these initiatives by the fintechs, the banking system has also benefitted substantially. The banker has not only emerged as the largest user of the newer services offered by fintechs but also provides support to the fintechs in their growth journeys. Extension of credit to such entities, utilising their services, and even being partners to some of the new initiatives by fintechs are all positive indicators of growth in this area, which, in turn, has a positive impact on the economic growth of the country.
The collapse of a bank like SVB — although in a different part of the world— is bound to have ripple effects on the fintech industry given the high dependence of the fintechs on the bank which has failed. While the full impact will be witnessed in the days to come, given that the Indian economy is poised for better levels of growth and with most of the fintech players having concentrated operations as well as funds-related activities within India, it may be safe to assume that there will be no large scale detrimental impact on the Indian fintech sector in the immediate future other than an impact in the volumes of potential new business.
The possibility of a long-term impact cannot be ruled out since the fintech industry works in an interconnected world where an event in one location has the potential to impact the industry as a whole. There would be tighter regulatory requirements on banks and this may not necessarily mean an opportunity for the fintechs (in the form of their services to reduce risks in banks) but will also have challenges to be addressed since this sector depends heavily on banks.
The possibility of long-term impact cannot be ruled out since the fintech industry works in an inter-connected world.
Given that fintechs— especially startups— already face challenges in terms of availability of funds for their requirements, the heightened controls would make it more difficult for fintechs to source funds; and the confidence levels of the successful fintechs in depositing all their surpluses in banks may also take a hit.
Predicting Failures
There would be pressure on regulatory agencies and governments to enhance their monitoring systems to prevent the recurrence of bank failures of the types witnessed till now, as also to provide early warning signals, which may help either proactive steps to be taken or quick action whenever and wherever required. Some of the possible measures in this regard may include:
• Increased reporting requirements: This may be taken as an opportunity for fintechs, especially those with a focus on RegTech (regulatory technology) and SupTech (supervisory technology), to provide for gaps in the current systems.
• More real-time monitoring systems: This would require the development of more effective systems with higher interdependencies. While tools such as artificial intelligence and big data analytics help, issues such as data privacy, potential for misuse of data and incorrect interpretational analysis are some of the factors which may have to be addressed effectively both by banks and regulators, and also fintechs and other service providers.
• Increasing controls: The rise in more control systems both within banks and by the regulators will be an activity which needs to be contended with. There will be a metamorphosis of the existing control systems to tighter systems with enhanced feedback mechanisms. This can be an opportunity for fintechs for their business prospects, and at the same time necessitating them to conform to the increasing requirements wherever their products and services are in use.
• Tighter oversight: There would be the emergence of tighter oversight over the tasks being undertaken by banks as also where they are either outsourced or performed in collaboration with other entities. This may require a review of the existing frameworks between banks and other entities.
• Cooperative efforts: Coupled with the above, it would also become increasingly necessary for cooperative efforts to be increased. Cooperative and joint operation-based modes would be increasingly witnessed in the future; this would have to be juxtaposed with the regulatory requirements pertaining to the segregation of business functions and responsibilities, with clear segregation of not only the roles of the respective entities but also of the finances of each player in the group.
• Risk-based supervision: There would be increased supervision over banks and risk-based supervision would get further strengthened. New matrices would be developed, which would outline the risk levels of banks and the potential of failures which will be then taken ahead for further reviews and stricter action where required by the regulators.
• Lesser tolerance to deviations: More regulatory action and lesser tolerance to deviations would be witnessed; these would necessitate that banks are more comprehensivein the evaluation of risks and do better risk management.
• ‘No-failures’ expectation: Perhaps the most important change is that customer expectation towards ‘No-failures’ will also increase which will increase the need for more communication to be adopted — in terms of content, channels and frequencies.
The world of the future will be one where banks will have greater roles to play. They will have to be agile, adaptive to change and more open-facing but at the same time have to be well governed, inward-looking wherever required, more data-based decision-making, work cooperatively and in unison with other entities and for mutual benefit and overall growth of the economy.
Let’s welcome the new Volatile, Uncertain, Complex and Ambiguous banking world of the future…
(The author is former Executive Director, Reserve Bank of India)
Bank Sprint!
• Silicon Valley Bank (SVB), among the first to collapse, mostly served IT companies, and specifically venture-finance tech companies
• The collapse of a bank like SVB — although in a different part of the world— is bound to have ripple effects on the fintech industry
• On March 8, the $200-billion bank announced plan to raise fresh capital; by March 10 morning, it was insolvent and under government control
• The Federal Deposit Insurance Corporation estimates that customers withdrew $40 billion — 1/5th of SVB’s deposits — in just a few hours. On March 12, FDIC shut SVB much before the close of business hour
• Is the second-largest bank failure in US history, behind only the 2008 failure of Washington Mutual
• Is said to be the first of the digital era bank run. Depositors used apps and phone calls to access their money in minutes
• On March 13, New York-based Signature Bank was seized by regulators in the third-largest failure in the US
• On March 19, Swiss authorities pushed UBS to take over Credit Suisse after its shares plunged and depositors fled, raising fears that it could fail. Credit Suisse is one of 30 banks classified as globally significant
• On March 24, Germany-based Deutsche Bank’s shares dropped sharply putting spotlight on yet another bank
