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Collapse of Silicon Valley Bank offers cautionary tale

Posted March. 15, 2023 07:42,   

Updated March. 15, 2023 07:42


The shutdown of Silicon Valley Bank (SVB) that shook the global financial market continues to send aftershocks. Concerns keep rising even after the U.S. government took early solid steps to guarantee all SVB's deposits. The financial market is fluctuating as concerns for spillovers onto small and midsized lenders and mounting bank runs. Volatility may likely last for a while as the issue would not be resolved in a short period of time.

The Korean stock market was hit on Tuesday, one day delay from the collapse after putting up a better-than-expected defense on "Black Monday." Both the KOSPI and KOSDAQ suffered a record drop since the start of 2023 by 2.56% and 3.91%, respectively. The Asian stock market was also hit along with turbulent foreign exchange rates. Global investors are quickly flocking to safe assets such as U.S. Treasury bonds and gold. In just two days since the shutdown of SVB on March 10, the market capitalization of the financial sector shrank by 465 billion U.S. dollars.

The industry was all the more shocked that SVB invested heavily in the U.S. Treasury bonds, which are considered one of the safest assets. That is different from the 2008 financial crisis, which was triggered by distressed assets. During the period of low-interest rates, SVB invested more than half of its funds in ultra-safe assets, including U.S. Treasury bonds. However, as the interest rate rose ever more sharply, the lender had to endure large losses due to plummeting bond prices to the extent that it could not handle the withdrawal demands from its depositors. The incident shows that no absolute safety zones exist in the financial sector.

This is why Korea's local banks and financial institutions can never feel relieved despite its different asset and debt structures from SVB and decent levels of liquidity. While SVB was bogged down by the U.S. Treasury bonds, Korea's financial sector has a bomb called “real estate project financing.” As of late 2022, the outstanding loan balance of real estate project financing amounts to a whopping 116.6 trillion Korean won, with 74% concentrated on non-monetary institutions such as insurance firms and securities companies. As for savings banks, as much as 30% of their loans are provided to high-risk businesses.

The SVB collapse proved that the financial crisis could no longer be dealt with the same old way due to the changes in the market. It is hard to predict when and how accumulated financial vulnerability caused by intensive monetary tightening will reveal itself. Financial authorities may miss an opportune time to respond, as seen in extremely fast bank runs enabled by the mobile banking system. The authorities should keep a very close eye on the market and take preemptive measures as soon as they detect any usual signals. The 2007-2008 financial crisis is still fresh in the memory of many Korean citizens as we suffered terrible consequences after the financial authorities optimistically announced that the nation's fundamentals were robust. We can never lower our guard.