A depositor might be more likely to withdraw their funds if they see other depositors lining up outside a bank wishing to do so. With electronic withdrawal requests, the symptoms of a bank run may be less easily seen.
When people literally run as fast as they can 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 to give to their customers due to fractional reserve banking and subsequently collapse. The last reported bank run occurred in May of when false rumors spread over social media and messaging apps that U. As a result, MetroBank customers began demanding their money.
Panic began to spread as photos were posted on Twitter showing customers queueing to access their accounts. Bank runs create negative feedback loops that can bring down banks and cause a more systemic financial crisis.
If, however, the pace of withdrawals were to be staggered and spread out over time, the bank would probably be able to come up with the cash required. While there are several regulatory mechanisms now in place to mitigate bank runs, silent bank runs mediated by electronic transfers can make a run on the bank still possible.
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Table of Contents Expand. What Is a Bank Run? Understanding Bank Runs. A History of Bank Runs. Preventing Bank Runs. Bank Run vs. The establishment of nationwide insurance on bank deposits through the FDIC has had the effect of reassuring consumers about their deposits and making runs and subsequent bank failures less common.
Some experts argue that bank failures remain a risk even with the presence of the FDIC because banks may keep the minimal FDIC-required cash reserves on hand and may have more liabilities than they claim on their balance sheets, which can create the conditions for eventual insolvency. However, most depositors in the U. In fact, they might not be inconvenienced in any meaningful way. Through FDIC insurance , customers at participating banks may get full or partial protection from monetary losses if a bank fails.
In the case when an open bank assumes the deposits of a failed bank, covered customers of the failed bank can continue to write checks, deposit money, and make electronic transfers as if nothing happened. Bank runs are a scary prospect that can lead to bank losses and failures along with economic decline. But the availability of deposit insurance means that they're less likely today and are generally not warranted unless depositors are not fully covered by the FDIC or NCUSIF or a total collapse of the financial system is imminent and you're concerned that your money will become worthless.
You can minimize the panic that drives bank runs and even do your part to prop up the economy by keeping your money in FDIC- or NCUSIF-insured accounts up to the limit and avoiding herd behavior. Cornell University. Board of Governors of the Federal Reserve System.
The Library of Congress. Federal Deposit Insurance Corporation. Government Printing Office. Accessed March 9, Federal Reserve Bank of Dallas. In their model, the fragility of a bank comes directly from the liquidity services that it provides.
While holding illiquid assets, the bank offers risk-averse depositors immediacy : namely, they can make withdrawals at face value on demand at any time. While the bank is solvent—the value of its assets exceeds that of its liabilities—it is illiquid because it cannot convert its assets immediately into cash without suffering large losses.
In this setting, the sequential process of redeeming deposits at face value creates a first-mover advantage : those who get to the bank first get paid in full, while those who are patient or just slow may receive nothing.
In the Diamond-Dybvig model, bank runs reflect a shift from a good equilibrium in which nobody runs and withdrawals occur randomly over time, to a bad one where impatient depositors all try to make withdrawals simultaneously. This means that runs are self-fulfilling : when some depositors believe that others will run, they have an incentive to run first.
In practice, however, sunspots generally do not cause runs see our earlier post. In the U. And, dramatic shocks with significant economic impact sometimes coordinated a rapid deterioration of expectations. Bruner and Carr attribute the origins of the U. In their stylized setup, the run itself forces banks to liquidate its assets at fire-sale prices, giving depositors an incentive to run.
They also may worry that the bank is barely solvent, with only a slim equity cushion available to absorb losses from a forced fire sale or a further shock.
The smaller the perceived cushion, the greater the incentive to run. Importantly, a first-mover advantage makes it prudent to redeem deposits before others do so. Not surprisingly, adverse selection is what causes bank runs to trigger panics. When depositors in one bank observe a run on another bank, they naturally question the solvency of their own bank. They cannot be sure because their bank is like a black box: they cannot costlessly observe the value of its assets. DocsTeach is a product of the National Archives education division.
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