By RICARDO EVANGELISTA

The past two weeks have produced flashbacks to the 2008 financial crisis following the collapse of Silicon Valley Bank (SVB). The failure of this once-thriving bank sent shockwaves throughout the world, and raised concerns about the health of the global financial system. The failure of SVB is rooted in poor risk management practices, primarily due to the bank’s heavy investment of client funds in long-term US Treasury bonds. The problem was that the bank failed to anticipate the bonds’ loss of nominal value after the Federal Reserve began hiking interest rates.

The collapse of SVB has had a significant impact on investor confidence, triggering worries about the stability of other financial institutions, especially after Credit Suisse’s woes emerged only a couple of days later. Material deficiencies were detected in the Swiss bank’s reporting over the past two years, stoking fears of a domino effect that could lead to more widespread damage in the banking ecosystem.

This sequence of events created a dilemma for the Federal Reserve and European Central Bank, as both institutions may have to choose between bringing down inflation or guaranteeing the stability of the financial system. The troubles of SVB and Credit Suisse showed that the fastest rate hiking cycle in living memory creates the type of conditions that make it more likely for such accidents to happen.

The failure of SVB and the ongoing issues with Credit Suisse have also highlighted the importance of effective risk management practices in financial institutions, with regulatory bodies also carrying this burden. Regulators should strive to apply an appropriate level of prudential supervision that will detect malpractices at an early stage.

Banks must ensure they have a diversified portfolio of assets, reducing their exposure to any particular asset class. They must also invest in instruments with high levels of liquidity, so that any unexpectedly high levels of client withdrawals can be honoured.

Regulators must ensure that financial institutions adhere to strict risk management practices, that they are adequately capitalised and have sufficient liquidity to meet client demands. They must be vigilant and take appropriate action to address any issues found.

In conclusion, the collapse of SVB has caused significant volatility in the financial markets, highlighting the importance of effective risk management practices and regulation in the financial sector. The ongoing issues with Credit Suisse have added to the concerns about the stability of the global financial system. The dilemma facing the Federal Reserve and European Central Bank is significant, and they must strike a balance between managing inflation and ensuring the stability of the financial system. It is essential that systemically important institutions learn from the recent events and take steps to ensure effective best practices to prevent similar incidents in the future.