Why banks hold capital and fear runs

Capital absorbs losses before depositors do. That is the entire point.

Basel: the global capital rulebook

After banks blew up worldwide in 2008, regulators tightened the rules under a framework called Basel III, named after the Swiss city where the standard-setting committee meets. You do not need every detail, but two ratios matter.

The Common Equity Tier 1 (CET1) ratio compares a bank's highest-quality capital (mostly common shares and retained earnings) to its risk-weighted assets. Risk weighting means a safe government bond counts for little, while a risky corporate loan counts for a lot. A mortgage sits somewhere in between.

The formula is simple:

Basel sets a minimum CET1 ratio of 4.5 percent, but with mandatory buffers layered on top, real-world banks are typically expected to hold well above 7 percent, and large banks considerably more.

The Leverage ratio is a cruder backstop. It compares capital to *total* assets with no risk weighting, so banks cannot game the system by claiming everything they own is low-risk.

You can read the framework directly at the Bank for International Settlements, the body that publishes Basel standards.

Where SVB slipped through

Here is the twist. On paper, SVB looked well-capitalized by these ratios. Its downfall came from a rule about *which* losses count.

SVB had parked huge sums in long-term US government bonds. These are considered ultra-safe from a credit standpoint: the US government pays its debts. So they carried low risk weights.

But when the Federal Reserve raised interest rates sharply through 2022, the market value of those older, lower-yielding bonds fell. This is basic bond math: when new bonds pay more, older bonds paying less are worth less.

Under accounting rules, some of these bonds were classified as held-to-maturity, meaning the paper losses did not have to be reflected in reported capital as long as the bank intended to hold them to the end. The losses were real, but hidden in a footnote. SVB's capital looked healthier than its economic reality.

Liquidity: the trigger that actually kills you

Capital is a slow problem. Liquidity is a fast one. SVB died of a liquidity crisis.

Liquidity is the ability to turn assets into cash quickly without a fire-sale loss. Basel introduced two liquidity rules after 2008:

The Liquidity Coverage Ratio (LCR) requires a bank to hold enough high-quality liquid assets to survive 30 days of heavy outflows.

The Net Stable Funding Ratio (NSFR) pushes banks to fund long-term assets with stable, long-term funding rather than money that can vanish overnight.

The doom loop at SVB

Watch how the pieces connected.

1. SVB needed cash to meet deposit withdrawals as startups burned through funding.

2. To raise cash, it had to actually *sell* some of those underwater bonds, turning paper losses into real, recognized losses.

3. It announced a plan to sell stock to plug the resulting capital hole.

4. That announcement told everyone the losses were real. Fear spread.

SVB had an unusually concentrated depositor base: tech founders and venture capitalists, tightly connected, watching the same news, using the same messaging apps. When a few respected investors told portfolio companies to pull their money, the message spread in minutes.

A run that once took days of people lining up at branches now happens at the speed of a smartphone transfer. This is what some call the first Twitter-and-smartphone bank run.

Deposit insurance: the circuit breaker

Why do bank runs happen at all? Because of a cruel logic. If you think a bank might fail, the rational move is to pull your money *first*, before the cash runs out. But if everyone thinks that way, the rush itself causes the failure. It becomes a self-fulfilling prophecy.

Deposit insurance is designed to break that logic. In the US, the Federal Deposit Insurance Corporation (FDIC) guarantees deposits up to $250,000 per depositor, per bank. If your money is insured, you have no reason to panic. If you have no reason to panic, the run never starts.

The uninsured deposit problem

Here is why insurance failed to stop the SVB run. An estimated 90 percent or more of SVB's deposits were *above* the $250,000 insurance cap.

That makes sense for a business bank. A startup with $20 million in the bank blows past a $250,000 limit instantly. Those depositors were not protected, so they had every reason to run, and they did.

In response, US regulators took an emergency step: they invoked a systemic risk exception and guaranteed *all* SVB deposits, insured or not, to stop the panic from spreading to other regional banks. This was controversial. It protected wealthy depositors and businesses, and critics argued it created moral hazard, the risk that people take bigger gambles when they expect a rescue.

What this teaches every banker

The SVB story is not really about one bank's bad luck. It is a clean illustration of how the system is supposed to work, and where it strains.

Capital and liquidity are different defenses against different failures. A bank can be solvent and still die of thirst. SVB's reported capital ratios looked fine while its economic capital was quietly eroding and its liquidity was about to evaporate.

Rules always lag behind reality. Basel III was built after 2008, when runs meant physical queues. It did not fully price in how fast a concentrated, digitally connected depositor base could move. Regulators are still catching up to that speed.

For a deeper, readable post-mortem, the Federal Reserve published its own review of the supervision and regulation of Silicon Valley Bank, which is candid about what supervisors missed.

Key Takeaways

• Capital absorbs losses; liquidity pays the bills. A bank can be solvent on paper and still fail if it cannot raise cash fast enough to meet withdrawals. SVB failed on both fronts at once.
• Basel ratios like CET1 measure capital against risk-weighted assets, but accounting choices (such as classifying bonds as held-to-maturity) can hide real economic losses from reported capital.
• Rising interest rates cut the market value of long-term bonds. A bank stuffed with older, low-yield bonds sits on hidden losses that become real the moment it must sell to raise cash.
• Deposit insurance stops runs by removing the reason to panic, but it only works for insured deposits. SVB's mostly uninsured, tightly networked depositors had every incentive to flee, and did so in hours.
• Modern runs move at smartphone speed. Concentration of depositors plus instant communication can compress a multi-day panic into a single afternoon, faster than old rules anticipated.