[Column] Two faces of an innovative bank

Cho Min-geun
The author is the business and industry news director for the JoongAng Ilbo.

Coincidentally and ironically, a regional American bank in California drew attention from Korea’s financial regulators in complete opposite perspectives over a week. What had been benchmarked as the model for capital sourcing to vitalize venture enterprises and innovations was shifted to a case study not to follow. Silicon Valley Bank (SVB)’s sudden collapse has sent shock waves worldwide.

The bank was first mentioned during a task force meeting on March 2 aimed at improving Korean banks’ management, marketing practices and regulations. The task force was formed after President Yoon Suk Yeol ordered “radical measures” to correct the oligopolistic structure of Korean banks. The idea of creating a small-scale specialized bank was floated, with SVB cited as an exemplary case.

SVB is dedicated to venture companies. It discovers and finances promising start-ups, and when they grow to a certain level, SVB becomes their deposit bank. It also offered customized consulting to novices needing more management skills. The bank became synonymous with the identity of Silicon Valley, the world’s most famous hotbed for venture enterprises. Its daring business model, in sharp contrast to that of Korean lenders who mostly rely on the interest income from loans to companies and individuals with high credit ratings, would have looked refreshing to Korea’s financial authorities. Reports followed that the government was mulling to create a boutique bank after the meeting.

But a shocking development followed. SVB was forced to shut down on March 10 and went into the bankruptcy procedure. The bank was closed just 36 hours after a deposit run. Its troubles were known to the public in the following days. The bank’s balance sheet more than tripled amid the fad over the innovative economy and growth stocks, while the interest rate was near zero during the pandemic. Entrepreneurs who became super rich deposited heir money in the bank. Awash in deposits — and with few places to lend — SVB invested the money in long-term, higher-yield government bonds.

The fortune reversed when the liquidity binge ended with the rate hikes. The rapid rise in the policy rate by the Federal Reserve caused a plunge in bond prices which usually move in the opposite direction of interest rate. As venture enterprises ran out of money from the Fed’s tightening, they began demanding their money back. SVB had to sell the bonds it had bought to return their deposits at the cost of huge losses. After the speculation of the bank being in trouble went viral, it forced customers to pull their deposits out in panic. The bank’s complacency and self-indulgence, coupled with slack supervision from financial authorities, brought about the fall. A bank’s concentration on a certain field and region can be a double-edged sword.

After a bank run unfolded, it sent jitters across the world. Korea’s financial authorities were less concerned, as “the impact on local financial market and banks would be limited.” They argued that Korean banks run differently than SVB. In other words, Korean banks use customers’ deposits to lend to safe borrowers and therefore are exposed to fewer risks. The banks’ long-standing conservative way of doing business — earning revenue from an interest gap by charging more for loans than deposits — ironically makes them less risky during volatile times. Rating agency S&P also judged banks in Korea and other parts of Asia and the Pacific safer than Western banks thanks to their “conventional” business model. It is hard to tell if the evaluation is praise or mockery.

During a second task force meeting on Dec. 15, SVB again joined the table. Financial Services Commission (FSC) Vice Chairman Kim So-young said that the task force team is designing an outline to promote competition among banks while ensuring financial stability and consumer protection. He did not say that the idea of boutique banks was thrown out the door. But the drive to bring new air into the banking system lost steam amid chain woes of global banks Credit Suisse and even Deutsche Bank.

It would be hard to attempt new things while the fire is spreading. Banks, nervy of strong government actions, appear to sigh with relief. But the domestic financial sector still requires a new impetus for competition and innovation to break out of the stalemate. Authorities must continue to discuss and explore effective ways to stimulate competition instead of trying to gain immediate results. They must thoroughly discuss how to control a number of risks accompanying innovative ways and how to transform the regulators to meet the demand of the times.