Bank Runs and Bank Panics

Reading Time: 4 minutes

Every few months you and your loved ones (or you from your loved ones) might be getting alarmist texts asking you to take your money out of the bank before you can no longer. However, nothing seems to come of it and today we are about to talk about what can happen if this kind of misinformation spreads and what real damage fake news can cause. 

Today, dear reader, we are going to talk about how banks work, what bank runs are, and how to avoid them as a country that is already going through a sizable rough patch. 

History of Banking

One of the biggest shames of our educational system is that there is not enough financial education baked into its syllabus. In turn most terms have to be overly simplified to get to the crux of the matter. So to explain Bank Panics and Crises we will first discuss the history of Banking, Bank Runs, and then a history of Bank Runs.

In the simplest of terms a bank receives money from lenders, and lends to those needing capital for projects. The earliest form of these banks were the merchants of the world that gave loads of grain from previous harvests to farmers who did not have any for the new crop. In this manner the merchants served as a bank to these farmers. 

Loans would also be given out by temples and other institutions in order to change money and perform banking duties. 

Now see, the main principle here is trust. 

Why did the moneylenders sit in temples? Because the populace trusted holy men more than the ordinary man, and an additional layer of emphasis was put on the money lender to be trustworthy. 

During this same period of time China and India also had similar institutions or supplementary processes that performed the function of a bank during this time. 

Banks are an institution where you trust that when you ask for your money, you will get it. If too many ask thought, that will become very difficult. 

The oldest banks in our history can be traced back to the ones established in the fifteenth century where Italian banks were a force to be reckoned with. The oldest bank that is still up and running is a Bank in Siena Italy known as the Banca Monte dei Paschi di Siena. This bank has been operating in Italy since the early fifteenth century. 

So, having journeyed from the early days of barter-trading bank supplementation to the more modern banks of the past and the now, we have established that there is a need for banks and that need is going to be there until something catastrophic happens. 

Banks are here to stay, they are not an evil thing that takes your money and loses it in a crisis and you shouldn’t get your deposit out after a whatsapp text from a paranoid family member. 

What is a Bank Run?

So we learnt in the previous section that Bank Runs are bad and that the Banking system does a good service in general. Well, less good and more essential. Let’s get into that first. The bank gets your money and invests it in projects (that other people have) and when those people make a profit, we get a return over the long term. 

This in turn is able to counteract inflation over that period of time and help us preserve the value of our savings. Also, the individuals that take loans from banks also need to provide back a set interest so that can be bundled into the total profit that the bank makes. 

However, the bank does not profit from just keeping money in vaults, the money is out there doing work, and if too many take it out at once it is a bank run. There is a set amount of liquid money a bank has and if too much of it is taken out at once, there will no longer be any amount left to give out. 

History of Bank Runs

Bank runs have been happening for a long time too, it is when the regular public believe that the banks will become insolvent is when this kind of thing happens. In that way it is a sort of thing that is a self-fulfilling prophecy. 

The first kind of “Bank Runs” were when English Goldsmiths issued notes payable (said that they would provide a certain amount of money to another party) but could not follow through due to bad harvests in the countryside. The amount of barter or grain that they wished to provide simply did not exist. 

When credit expands, the bank run is the first thing that happens in its contraction. Funnily enough, the threat of Bank Runs were even enough to threaten governments: When King William IV tried to block some reforms, reformers threatened a run on the banks, under the rallying cry of “Stop the Duke or Back to Gold.”

A more modern example would be the great depression in 1929 following the collapse of the stock market. 

In defense of their holdings, to stop the flow, banks may try a myriad of tactics to try and stymie the tide of outflow of funds. This includes stopping people from performing withdrawals to a certain level and even stopping withdrawals altogether. 

In Summary

Now imagine this, some auntie on a whatsapp group makes it famous enough that banks will no longer pay out your money, the specific bank has a bank run due to it, that bank tries to withdraw from other banks and some other banks which leads to a banking panic akin to a 2008 crisis. Such a banking panic can lead to an economic recession that might take years for a country to get itself out of. 

It is our duty to financially educate ourselves on matters such as these so that we can prevent terrible financial crises from happening to us in the future. As for an individual’s duty it is pertinent for us to do our due diligence and understand what is happening before taking any steps that might eventually lead to a bad situation.