Global Policy Watch: Bailout Pe Bailout Pe Bailout Insights on global policy issues relevant to India — RSJ Where do I start this week?  Maybe with a spot of self-promotion. Pranay and I were guests on the popular Hindi podcast Puliyaabazi. I have been a long-time fan, so it was nice to be a guest there. Pranay usually co-hosts this with Saurabh and Khyati, but this time, he was on the other side. I felt a bit like Uday Chopra, who is only in the film because he is the producer’s brother. Anyway, I think a good time was had by all as we covered a wide variety of topics - Enlightenment and why it didn’t happen in India (short answer: there wasn’t any need, really), why we write this newsletter (majboori) and the usual quota of Bastiat, Smith and Rorty (showing off). Do listen if you have time (of course, you do). Moving on.  Here is a quick run-through of what’s gone on since my last post. Another US regional bank, Signature Bank, stared into the abyss with depositors making a run to withdraw their money as analysts looked around for large unrealised losses sitting on banks’ balance sheets. Fed officials spent their weekend hawking the other failed bank, Silicon Valley Bank (SVB), to potential buyers. But who in their right mind will buy out a troubled bank in these times? More so after all the trouble that the likes of JP Morgan Chase had buying out such banks during the financial crisis of 2009. Running out of options, the Fed, the Treasury and the Federal Deposit Insurance Corporation (FDIC) announced an unprecedented bailout of all depositors of SVB and any other bank that will be in a similar hole in future. Simply put, FDIC will guarantee all deposits and not just those below $250,000 for which there’s insurance. To be sure, the equity shareholders and those holding unsecured corporate bonds won’t be bailed out. They will lose their shirts. So, this isn’t a repeat of the 2009 bailouts. The Fed then went a step further to address the root cause of the problem. Banks are sitting on huge held-to-maturity (HTM) losses on the securities they hold because the interest rates have moved too far up too quickly. And they have a liquidity issue if there are continued withdrawals from the depositors. If they sell their securities today to meet their commitments to give depositors their money when they ask for it, they will have to sell them at a loss. This substantial loss will mean they will need to raise capital from shareholders to keep themselves solvent as per Fed requirements. But who will give them money in this market? Uninsured depositors who play out this game-theory scenario in their minds will therefore withdraw more of their money. Ideally, if they play the scenario right as a collective, they shouldn’t. But as individuals, they will make a run on the bank. Soon, the bank will be in a death spiral, and this is what happened at SVB and Signature Banks. The last-minute solution devised by Fed was the creation of what’s termed the Bank Term Funding Program (BTFP). Here’s how Fed sees BTFP: “The additional funding will be made available through the creation of a new Bank Term Funding Program (BTFP), offering loans of up to one year in length to banks, savings associations, credit unions, and other eligible depository institutions pledging U.S. Treasuries, agency debt and mortgage-backed securities, and other qualifying assets as collateral. These assets will be valued at par. The BTFP will be an additional source of liquidity against high-quality securities, eliminating an institution's need to quickly sell those securities in times of stress. With approval of the Treasury Secretary, the Department of the Treasury will make available up to $25 billion from the Exchange Stabilization Fund as a backstop for the BTFP. The Federal Reserve does not anticipate that it will be necessary to draw on these backstop funds.” If you didn’t have any background to this situation and just read the above