The Ongoing Banking Crisis and Impact on Bitcoin
Banking Crisis, in 2023, the banking sector in the United States encountered a series of challenges and shocks, leading to the failure of several large and medium-sized banks. Silicon Valley Bank (SVB), First Republic Bank (FRB), Silvergate Bank, and Signature Bank have all been liquidated or dissolved as of the publication of this article. Notably, the failures of FRB, SVB, and Signature Bank were the second, third, and fourth largest in U.S. history.
Outside of the United States, UBS had to buy the Swiss-based bank Credit Suisse, which was founded in 1856 and had more than $1.3 trillion in assets under management at the end of 2022. And more bank failures may be on the way. As an example,Pacwest Bancorp’s shares has dropped more than 80% since the beginning of the crisis in March.
Bitcoin, on the other hand, has performed well from the start of the crisis, going from around $20,000 to around $26,500 at the time of writing. This is due in part to the fact that the banking industry’s woes have highlighted a major value promise of Bitcoin: consumers have complete control over their digital cash and are not exposed to counterparty risk. According to recent Standard Chartered research, this storyline might drive the Bitcoin price to more than $100,000 by the end of 2024.
However, underlying the current bank problems lies a much more serious catastrophe in the form of the US dollar’s continued weakening.
Why Are Banks Facing Failure?
The hike in interest rates is a common issue among most problematic banks right now. When interest rates rise, freshly issued debt becomes more appealing than previously issued debt due to the higher interest rate paid on the debt. As interest rates rose sharply in the last year or two, the value of what were thought to be low-risk assets held by banks, such as mortgage-backed securities and US treasuries, fell.
According to a recent Federal Reserve research, 722 U.S. banks may face unrealized losses of more than 50% of their capital when interest rates rise by the end of the third quarter of 2022. When this occurs, When massive unrealized losses at banks combine with the fact that the Federal Deposit Insurance Corporation (FDIC) only guarantees bank deposits up to $250,000, customers get concerned about the possibility of losing their money, which can lead to withdrawals and, potentially, a bank run.
This is exactly what happened, for example, in the instance of SVB in March 2023. SVB was a Silicon Valley bank that specialized in helping tech companies and investors. It possessed a sizable portfolio of long-term bonds, which lost value when the Federal Reserve hiked interest rates. This resulted in a capital shortfall for SVB, threatening its financial viability. When SVB reported its losses, many of its customers panicked and withdrew $42 billion in deposits in one day. This depleted SVB’s liquidity and pushed it to shut.
Losses on long-term debt instruments were also incurred by Silvergate Bank and FRB prior to their respective closures; however, the actual reasons for Signature Bank’s forced liquidation by New York State regulators remain unknown. The Department of Financial Services is still a little hazy.
“If you look at the Silicon Valley Bank issue, it’s not so much their issue as it is a worldwide issue,” billionaire hedge fund manager Ray Dalio noted in a recent interview.
The Federal Reserve’s Conundrum
So, why is the Federal Reserve raising interest rates even when it is causing some banks to fail? The answer is that rates are rising in order to prevent further deterioration of the US dollar.
The Federal Reserve is today faced with a challenging task in managing monetary policy in the face of high inflation and the prospect of a recession. The Federal Reserve’s dual mandate includes keeping inflation under control, with the current objective of 2% per year. However, inflation will reach 7% in 2021. After decreasing to 6.5% in 2022, the 12-month inflation rate ending in April 2023 was 4.9%.
The Federal Reserve has attempted to reduce inflation by boosting the federal funds rate, which is the interest rate on bank deposits.
The interest rate that banks charge one another for overnight loans. This raises the cost of borrowing and diminishes demand for products and services in the economy. As a result, boosting interest rates too much or too soon might limit economic development or even cause a recession.
In other words, the Federal Reserve must strike a compromise between reducing inflation and preventing a recession. This will not be an easy undertaking, as history shows that every time a central bank hiked interest rates to combat inflation since 1950, a recession ensued. With the most recent increase to the 5% to 5.25% target range, interest rates have now reached levels not seen since just before the Great Recession began in late 2007.
Bank Failures on Bitcoin
So, what does this all mean for Bitcoin?
It is dependent on the federal government’s potential response when banks fail. Lawmakers and regulators can either let the market run its course and allow customers to lose money, or they can effectively bail out the bank and safeguard depositors. Surprisingly, both circumstances show a different value proposition for Bitcoin.
When a bank is allowed to fail and depositors lose all of their assets above the $250,000 FDIC insurance limit, the market becomes more aware that funds deposited in a bank are not necessarily safe. Indeed, billionaire hedge fund manager Hugh Hendry recently warned that the US Treasury Department and Federal Reserve may be planning to raise interest rates. Americans may be barred from withdrawing funds from their bank accounts.
This is where the Bitcoin proverb “not your keys, not your crypto” comes from. Crypto is the only means to hold a digital asset without facing counterparty risk. Bitcoin is digital currency, and the owner of the private key has complete control over the asset.
Of course, no depositors have lost money as a result of the banks that have failed thus far. However, it is uncertain whether the worst of the crisis has actually passed.
The Real Problem Is the Weakening Dollar
If the government decides to bail out a bank, or potentially a number of banks, continued expansion of the money supply may become an issue. After all, where will the rescue funds come from? This brings us to another important value proposition of Bitcoin: its 21-million-coin supply is failsafe and “set in stone,” as Bitcoin creator Satoshi Nakamoto explained many years ago. Bitcoin holders do not need to rely on a centralized party to keep the supply stable.
This relates to the general investment concept of Bitcoin. A bet on Bitcoin is a wager that fiscal responsibility will not be implemented by the US government (or any other significant nation) anytime soon. It’s a wager that the US debt ceiling will be raised, deficit spending will continue, politicians will continue to kick the can down the road, and money printing will be preferred over the short-term pain required to restructure the economy.
When the crisis initially began, regulators and lawmakers made it plain that they would “meet the needs of all their depositors,” including amounts in excess of the typical $250,000 FDIC limit, to maintain the stability of the US banking system. Unlike the bank bailouts of 2008, Biden stressed that this is done through a “emergency lending program” that does not involve taxpayer funds. Furthermore, there are developing indicators that the Fed may be poised to put a stop to additional interest rate hikes. According to CME Group data, the probability of a pause in interest rate hikes in June are currently about 64%.
It should also be noted that the dollar is headed for more weakness, whether additional banks collapse or not, given the underlying issue.is the existing debt, as well as the government’s continuous deficit expenditure. At the same time, other countries throughout the world have gradually reduced their holdings of US dollar-denominated assets in reserves and increased their gold allocations. This has reignited the discussion about de-dollarization. In other words, if the supply of government-issued debt in the United States grows, demand for it may fall. If there aren’t enough buyers for the debt, the Federal Reserve may print money to buy it (raising inflation) or interest rates would have to rise to entice new purchasers. Higher debt interest rates would imply a greater proportion of the federal budget going toward interest payments, exacerbating the debt problem and potentially contributing to it.
to inflation later on. In addition to reducing their reliance on the dollar as a reserve asset, some nations, particularly the BRICs, are exploring the possibility of doing commerce in currencies other than the US dollar. All of these reasons could lead to the US dollar’s prolonged depreciation.
The current banking crisis merely has the potential to accelerate the dollar’s deeper issue, as was the case with the COVID-19 pandemic and the concomitant spike in government spending. When politicians have had the choice between cutting spending and raising taxes on their voters or simply creating more money, they have always chosen the latter.
Could it be a mistake to exclude Bitcoin, or “rat poison squared,” as Buffett refers to it? Bitcoin is still evolving as a reliable store of value, with unique characteristics such as the absence of counterparty risk in the digital environment.
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