What Is a Bank Run? Definition, Examples, and How It Works

What Is a Bank Run?

A bank run is when a large number of customers of a bank or other financial institution withdraw their deposits at the same time over fears about the bank's solvency. As more people withdraw their funds, the probability of default increases, which, in turn, can cause more people to withdraw their deposits. In extreme cases, the bank's reserves may not be sufficient to cover the withdrawals.

  • A bank run occurs when a large group of depositors withdraw their money from banks at the same time.
  • Customers in bank runs typically withdraw money based on fears that the institution will become insolvent.
  • With more people withdrawing money, banks will use up their cash reserves and can end up defaulting.
  • Bank runs have occurred throughout history, including during the Great Depression and the 2008 financial crisis.
  • The Federal Deposit Insurance Corporation (FDIC) was established in 1933 to try to reduce the occurrence of bank runs.

Watch Now: What is a Bank Run?

How Bank Runs Work

Bank runs happen when a large number of people start making withdrawals from a bank because they fear the institution will run out of money. A bank run is typically the result of panic rather than true insolvency. However, a bank run triggered by fear can push a bank into actual insolvency. So what begins as unfounded panic can eventually turn into a default.

Most institutions have a set limit to how much they can store in their vaults each day. These limits are set based on need and for security reasons. At the same time, banks are required to keep a minimum amount of cash reserves on hand, either in a bank vault or in an account with a central bank, to minimize the risks related to bank runs.

Because banks typically keep only a small percentage of deposits as cash on hand, they must increase their cash position to meet the withdrawal demands of their customers. One method a bank uses to increase cash on hand is to sell off its assets—sometimes at significantly lower prices than if it did not have to sell quickly. Losses on the sale of assets at lower prices can cause concern which can trigger withdrawals.

Examples of Bank Runs

In modern history, bank runs are often associated with the Great Depression. In the wake of the 1929 stock market crash, American depositors began to panic and seek refuge in holding physical cash. A succession of bank runs on thousands of banks occurred in the early 1930s in a domino effect.

In response to the bank runs of the 1930s, the U.S. government set up several regulatory mechanisms to try to prevent bank runs, including establishing the Federal Deposit Insurance Corporation (FDIC), which today insures depositors up to $250,000 per banking institution.

However, bank runs still occur. More recent examples of significant bank runs include those on Silicon Valley Bank, Washington Mutual Bank (WaMu), and Wachovia Bank.

Silicon Valley Bank

The collapse of Silicon Valley Bank in March 2023 was a result of a bank run caused by venture capitalists. The bank reported that it needed $2.25 billion to shore up its balance sheet, and by the end of the following business day customers had withdrawn about $42 billion. Regulators closed the bank and took control of its assets.

Silicon Valley Bank had last reported $209 billion in assets as of the fourth quarter of 2022, making it the second-largest bank failure of all time.

Washington Mutual (WaMu)

Washington Mutual (WaMu), which had about $310 billion in assets at the time of its failure in 2008, was the largest bank failure in the U.S. Its collapse was caused by a number of factors including a poor housing market and rapid expansion. The bank also suffered a run when customers withdrew $16.7 billion within two weeks.

Washington Mutual was eventually bought by JPMorgan Chase for $1.9 billion.

Wachovia Bank

Wachovia Bank was also shuttered after depositors withdrew over $15 billion over a two-week period after Wachovia reported negative earnings results. Wachovia was eventually acquired by Wells Fargo for $15 billion.

Much of the withdrawals at Wachovia were concentrated among commercial accounts with balances above the limit insured by the Federal Deposit Insurance Corporation (FDIC), drawing those balances down to just below the FDIC limit.

The failure of large investment banks like Lehman Brothers, AIG, and Bear Stearns was not the result of a bank run. Rather, these bank failures resulted from a credit and liquidity crisis involving derivatives and asset-backed securities.

Preventing Bank Runs

In response to the turmoil of the 1930s, governments took several steps to diminish the risk of future bank runs. Perhaps the biggest was establishing reserve requirements, which mandate that banks maintain a certain percentage of total deposits on hand as cash.

Additionally, the U.S. Congress established the FDIC in 1933 to insure bank deposits in response to the many bank failures that happened in the preceding years. Its mission is to maintain stability and public confidence in the U.S. financial system.

The FDIC provides $250,000 worth of insurance per depositor, per account for banks that have FDIC backing. That means, if a bank fails, your deposits will be protected up to that amount.

In some cases, the FDIC may extend its coverage. For example, when Silicon Valley Bank failed in 2023, the FDIC used funds from the Deposit Insurance Fund to fully reimburse depositors. The money in the fund is furnished by quarterly fees assed on banks.

In some cases, banks need to take a more proactive approach if faced with the threat of a bank run. For example, they may temporarily close to prevent people from withdrawing their money en masse. Franklin D. Roosevelt declared a bank holiday in 1933, calling for inspections to ensure banks' solvency so they could continue operating.

What Is a Silent Bank Run?

A silent bank run is when depositors withdraw funds electronically in large volumes without physically entering the bank. Silent bank runs are similar to normal bank runs, except funds are withdrawn via ACH transfers, wire transfers, and other methods that do not require physical withdrawals of cash.

What Is Meant by a Run on the Bank?

When people literally run to their bank in order to withdraw their funds for fear of the bank collapsing is where the term originated. When this is done simultaneously by many depositors, the bank can run out of cash (due to fractional reserve banking) and collapse.

Why Is a Bank Run Bad?

Bank runs create negative feedback loops that can bring down banks and cause a more systemic financial crisis. A bank usually only has a limited amount of cash on hand that is not that same amount of its overall deposits, if say, too many customers demand their money, the bank simply won't have enough to return to their depositors.

The Bottom Line

A bank run is when bank customers flock to banks, either physically online, to make withdrawals because of a loss of confidence in the bank. In extreme cases, they can cause the collapse of a bank as a bank run did in 2023 with the closure of Silicon Valley Bank.

To reduce your risk of losing money in a bank run, you can keep the amount of your deposit under the FDIC insured limit of $250,000 per depositor, per insured bank. If you need to deposit more funds, you can open an account at another bank and receive the same protection.

Article Sources
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