What Causes A Bank Run?
A bank run is what occurs when a large number of customers or depositors attempt to withdraw their funds simultaneously because of a panic or because of similar situations such as what is happening in today’s economy with President Barack Obama proposing spending more money that the country has. Bank runs are usually incited by fear and this creates many problems for the depositors and the banks, because banks generally only actually have a small amount of deposits on hand at all times, lending out the majority to borrowers and using it for various purchases.
Banks hold very little capital on hand, which means that people can’t all have their money at the same time. This situation can cause a bank to experience insolvency and it then needs to bailed out by the FDIC or Federal Reserve Bank.
A bank run is very unlikely to create this situation, though. People tend to over-dramatize the process, because it is rare that enough depositors will actually want to withdraw their funds that creates this type of situation. Often, people will switch their savings from one bank to another, rather than completely withdrawing the funds, which will allow banks in the same area to be able to help the bank that is experiencing the run. Therefore, a bank run is not likely to make a bank insolvent.
If the fears are justified though, this can be a whole different type of situation. As we have seen lately, banks are very susceptible to falling due to a bad economy, bad mortgage lending and investments and too many investors and depositors losing money or taking their money away from the bank. The banks that face this problem will end up defaulting, which isn’t actually insolvency caused by a run, but merely the other way around. Many people involved in bank runs will either redeposit the money into safer banks, or they can buy treasury securities instead. This money being pumped back into the economy will help all banks, including the one experiencing the run.
If someone really feels that threatened by the banking system as a whole, they can simply hold on to their own assets, which will take that money away from the economic and banking systems, which can cause the economy to decline. Bank failures aren’t a regular occurrence, and happen very rarely in history. During the Great Depression, many banks failed, but this was a rare occurrence.
The deposit insurance that all banks have today is what keeps them from being affected by bank runs. Since people’s money is protected and insured, there is less need for fear and concern about the safety of money that is in a bank that isn’t doing well. Troubled large banks that have uninsured deposits that are significant in size are an example for other lenders, helping them to realize they need to strengthen their status in order to succeed and avoid facing the threat of bank runs.
If you own gold though, you never have to worry about a bank run because you own the physical commodity and it can never be devalued below the price for the actual precious metal.