America's financial system has survived the first week after the collapse of Silicon Valley Bank and Signature Bank, thanks in large part to the Federal Reserve, which stepped in with loans of more than $300 billion. By far the largest share of this comes from the so-called discount window, an instrument by means of which the world's most important central bank has been providing credit for more than a hundred years against collateral taken into account with its calculated market values.

Winand von Petersdorff-Campen

Economic correspondent in Washington.

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For a long time, refinancing in this way was frowned upon by bank managers because it was interpreted as a sign of weakness. In order to prevent fear of stigma from allowing banks to take unnecessary liquidity risks, lending has been reformed. The rule that the banks could only use the loan if they had exhausted alternatives was abolished. Instead, borrowers had to accept interest rates slightly above the market interest rate.

As a new instrument, the Federal Reserve then presented a new crisis aid on the Sunday before last after the American bank collapses, which, in contrast to the discount window, allows cash-strapped banks to deposit bonds at their book value as collateral. In doing so, the Fed worked overtime in response to one of the two major crisis factors of the American banking system: unrealized losses. These had accumulated to $ 620 billion, according to the FDIC. Their origin is easy to explain: the banks had put a lot of money into long-term government bonds and government-guaranteed mortgage-backed securities when interest rates on these securities were low. However, the market value of these bonds fell with the turnaround in interest rates. That is, the banks would suffer losses if they sold the securities. But they don't have to if the bank's liquidity is large enough to cover a withdrawal of funds.

Technically, the institute was insolvent

Silicon Valley Bank was a special bank, but the mechanics that led to its collapse can be repeated in many institutions. It was the first to carry it out of the curve, because an unprecedented inflow of funds – the assets tripled from the beginning of 2020 to the end of 2022 to 175 billion dollars – the assets quickly melted away. Their bank balance sheet reflects the ups and downs of Silicon Valley, which was filled with euphoria during the pandemic and was overtaken by cold reality by mid-2022 at the latest. The funds from the financing rounds, which were stored in the bank accounts, evaporated.

Silicon Valley Bank didn't see that coming. It had invested most of the money in safe government bonds and mortgage-backed securities with an average maturity of 6.2 years at the end of 2022. At the same time, a special indicator began to unsettle insiders: the so-called liquidation value of the bank. This is the value of the bank that is left for ordinary shareholders when all assets are liquidated. This value had shrunk to 11.8 billion dollars in Silicon Valley. Unrealised losses were not taken into account. Technically, the institute was insolvent.