Why most of our money isn't real

a tough week for the banking industry the collapse of Silicon Valley Bank is causing shockwaves throughout the business world a big bank just died we've all heard about it, everyone's talking about it and we have to talk about it because something big is happening here , as of this morning, Silicon Valley Bank or svb has completely suffered the second largest banking collapse in US history. The bank is called Silicon Valley Bank or if we are going to call it svb in this video, it is the epicenter of new technology companies. venture capital and now it's effectively dead the government is fighting to keep us all quiet while this bank goes bankrupt your deposits will be there when you need them the American banking system is

real

ly safe and well capitalized that's because we live in a system that doesn't It doesn't work if everyone gets scared at the same time, the system depends on everyone maintaining a sense of security, if that doesn't happen the system breaks down and that's what I'm going to explain today, so let me show you how it happened. how this bank failed and what it means for you and me, but more importantly, how this moment teaches us that our bank accounts are kind of a lie, we're going to have to do something different here, we're actually bailing out depositors in Banks that made some bad decisions over the course of the last year Americans can have confidence that the banking system is safe, okay, so let's talk about the banks, this is all done with credit, the credit created by the bank from the deposits made by all of us, the banks are

real

ly nice.

Crazy, we think of a bank as a place where we take our

money

and store it like we give it to the people at the bank and they put it in a giant vault and it's safe until we need it, but that's not what it is. What's happening in reality is that banks are doing something pretty magical when you give them your

money

. What they do is actually at the heart of our modern society, our modern economy, it's what makes a lot of things work. Let me explain, let's get a little more information about the collapse of Silicon Valley Bank Okay, let's go back to the old macroeconomics collage like we've done in previous videos, let's say I put ten thousand dollars in my bank, which is crazy is that the bank only has to keep 10 of that. money in the real bank 10 percent, so that's like a thousand dollars of my ten thousand dollars, the other nine thousand dollars can go out and invest and make money using my money, they can go invest it, this often means giving out loans to people . and charging interest is fine, so nine thousand of my dollars are loaned to, say, a baguette business that needs a business loan because they need a new oven.

My bank gives my money to the baker and charges him interest on that loan and they actually give it to me. a little bit of that interest that they've had to say, hey, thanks for letting me use your nine thousand dollars, so the baguette business now has nine thousand of my dollars and I don't really know because I think my money is in one vault somewhere, so now the baker with his new loan goes and buys his oven for nine thousand dollars and the seller of the oven takes that nine thousand dollars and puts it in his bank and guess what his bank does the exact same thing.

What my bank did with my money but now they are doing it with their money which is my money, they only have to keep ten percent in their vaults so they only have to put nine hundred dollars in the vault that they have. 8 100 that they can lend and look, there is a family that is looking to spend money on a house and they need a loan, okay, wait, are you seeing what is happening? Here I gave 10 grand to my bank and now that money has magically doubled a few times. to earn more money, like real money, that can be used to buy things, a furnace and then a house, this keeps happening over and over again, my 10 thousand dollars keeps getting used to being loaned, put in another bank and then loaned again in In fact, if you model this in a nerdy spreadsheet, which is something I like to do, you'll see that if I deposit ten thousand dollars in the bank, ten thousand dollars are added to the system, but then for each of these transactions, more and more. the money is added to the system this is the aggregate of all the money that is added to the system my ten thousand dollars become this look what happens look it goes on and on and finally it is actually 10 thousand dollars what my ten thousand dollars just became a hundred thousand dollars in the economy due to strange mental constructs yes, that is our modern financial system, it is amazing and it is mind-blowing, okay, this magical thing is called the money multiplier effect and It is based on the reserve ratio that the requirement that the banks have like the amount that they have to maintain in this case 10, which is like the actual reserve ratio right now, you can do these calculations as one on the reserve ratio and It kind of gives you this multiplier effect on your money, the crazy thing is that the lower the reserve ratio, like if your bank only had to hold five percent of your money, the more money would be created in the economy, but riskier it would be for you if the reserve ratio was like 50, if they had to keep fifty percent of your money then it would be safer for you, but now you are not prepared to give all this money to the economy to make transactions and build businesses and build capitalism so that the reserve ratio is like 10 right now, which means that a bank that has a hundred million dollars from all of its customers actually only has to have 10 million dollars in its vault. at all times and the other 90 million are outside doing their jobs.

It works in the economy by multiplying and generating profits for the bank and giving it a small interest rate and the bank is secret all the time, please don't all come to withdraw your money at the same time because we don't actually have it. just please thank you okay so this is a little scary like the bank only has 10 of my money. It feels a little risky. I thought banks were the safest place to put your money. It's not that I'm making a risky investment in stocks, maybe I am. I should take all my money out of my bank account and put it under my mattress so the bank isn't playing with it.

Well, no, let's not do that, please, because if we did, our economy would miss out on this incredible magical multiplier. effect that turns my 10 grand into a hundred grand and our economy would literally be a fraction of how prosperous it is. The reality is that we don't have to worry and I'll explain it to you in a second, but first I need to thank the sponsor of today's video thanks to the sponsor of today incogni some of you may have remembered that a few years ago I made a video about email spam and, like the original framing of that video, I was going to go to war on spam.

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Governments know this is a bit scary and they also know that our society and our economy is based on us keeping our money in the bank without freaking out, not everyone suddenly goes and takes it out so we can all sleep better at night , they promise that if a bank ever does something reckless with our money or accidentally loses it. while they are investing, the government will make up the difference, the government will give us back the money we lost, at least up to two hundred and fifty thousand dollars, it's like everyone keep calm, they will pay if you lose it, just don't all go at the same time and take out your money please, the whole system depends on it.

Can we relax and can we relax as long as we don't have more than 250,000 in our bank account anyway? This works for

most

people,

most

people don't have 250,000 lying around, but what about businesses? Companies have to use banks. They have expenses every month, such as payroll and rent. A technology company like Roku had half a billion dollars in Silicon Valley Bank and at this time the company does not know to what extent it will be able to recover that cash. Companies like this need more than 250,000 to cover their costs, so the question is how do they feel safe and this is where we come back to Silicon Valley Bank these dynamics become very strange when you talk about the clients being a group of companies.

You have the money? Nerves ask your nearest Bank of America branch for a jar of comforting instant money. Okay, so Silicon Valley Bank is the bank for businesses, particularly tech startups in California, and unsurprisingly, ninety percent of their customers had over 250,000 brand names where the government will insure it, so a lot of that money is not insured by anyone, they just trust their bank and that's fine. They don't take their clients' money and like to make super risky bets with it. This bank has been in business for 40 years and has done well, but what happens next is a perfect storm of events that led to this bank going under.

Where is the hiding place? make a list for this here we go the anatomy of a big bang collapse first they invested a lot of their clients' money like all banks do in this case they invested in government bonds, which is a totally safe investment, it is an investment for put your money in for a certain period of time, like 10 years, and the government will pay you interest on that money based on the federal interest rate, the interest rate, you know, what the FED goes up and down to help slow down the economy. However, the thing is that when svb bought these bonds it was like last year and the year before, when rates were very, very low, okay, it was not a great return for them, but it was okay, it was a safe investment if they were simply waiting for the time period to pass. the bonus would give them all their money back plus a little return, that's fine, but then what happens next?

Economists expect a rate increase of three-quarters of a percent to help reduce inflation. The government begins to increase interest rates. They're doing this to help Stave. out of inflation stabilize the economy the government is doing this thing called raising interest rates that's fine what it means is that people who buy bonds today will get a better rate of return those bonds are more valuable now so svb who bought their bonds a couple years ago when interest rates were very low and if they ever wanted to sell those bonds early, they are now competing with interest rates that are much higher and therefore their bonds in They are actually worth much less.

If they had to sell them today, they would lose. money is fine, but again, fine, just hold your bonds until the maturity schedule is complete and then the government will give youwill return all your money with your small return, everything is fine, fine, but here is the next part of the perfect storm that really begins. To warm up to all of this, remember that svb's customers are startups. Startups raise money from venture funds and take that money and deposit it into svb and that's how svb gets its money to operate and invest, but during this recent economic downturn, startups have gone away.

They haven't been able to raise as much money and therefore svb hasn't received as much money, so they start using their reserves and realize that they have to find a way to get more money and it's not going to work. They come from startups because startups aren't raising funds, so they dip into their bonuses. It's like we have tons of our clients' money in these really safe bonds. They have low interest rates. We probably need to sell some of them. to get some cash in our reserves to meet all our needs and the withdrawals and all that, so they sell a bunch of their bonds and this is where things start to go really wrong, they announced that they are selling their bonds and they have to sell them. early and yes we bought them at a lower interest rate and now the interest rate is higher so we are actually selling them at a loss and that loss is actually two billion dollars.

Well, again, banks have to deal with this kind of thing. It's not great for them, but it's far from lethal, but this is where things start to get really bad. They go out and announce that they are going to raise money from other investors. It's like they're going out looking for money. Hey yeah we sold the bonds we also need you guys to invest in our bank so we can stay well everyone stay calm no big deal we just need to raise a little money everyone stay calm but the best way to Please. making people scared is to stay calm, it's really no big deal, we're fine, we just need to raise some money and we're selling bonds at a loss, oh my god it's happening to everyone, what's the procedure?

Well, now, as the final blow hits all of this, all of these founders and venture firms are talking to each other because they're all in the same community in the same area, all in the same business. everyone in the same WhatsApp groups and everyone says: Hey guys, what's going on with svb? Our whole bank, why are they raising money? Why are they selling their bonds early? My money is not safe and it's like a herd of bison scared by a loud bang a stampede of very rich founders and startups in central California start withdrawing their money from svb trying to stay safe what you're seeing behind me They are Silicon Valley Bank customers lining up to make sure they can get their money.

They know that their accounts are not insured by the government because they have too much money and that's why they don't feel that their money is safe and they take it all out. I need money. How am I going to live until the bank opens? play I need cash, how much do you need? On Wednesday alone, clients withdrew $42 billion, or a quarter of what the bank was worth. Word is getting out on Wall Street that this is happening and svb stock is starting to sink, the bank's stock lost 80 percent of its value this week it was 60 in a single day yesterday which makes it even more difficult for them to go out and raise new money to meet all the demands of people withdrawing their money, there is a panic or as we call it, a run on the market. bank and just like that, svb ran out of cash because all its customers tried to withdraw their money at the same time and were reminded that the modern banking system is based on banks only holding a fraction of their money while the rest is in the economy becoming more money, we don't want to be reminded of this too often, but when we do it's a little scary, so the government swoops in to take over the ship, ah, but not before the executives of the bank can pay themselves. a lot of bonuses because they are banking people and this is what banking people tend to do so yes, on friday the federal regulators stepped in and took control of svb's assets, it will be considered the second largest banking collapse in the history, right behind Washington's 2008.

Mutual collapse, so since the beginning of the modern financial system, the government has played an important role in making us feel secure about our bank accounts, even though our bank accounts are a lot of mental constructs and really just a list of ious plus 10 of their real money they don't want us to think that way because if we do chaos happens and the system collapses, you are thinking wrong in this place, like I have the money in a safe, the money is not here, well, your The money is in Joe's house which is right outside his doors and in the Kennedy house in Mrs.

Maclin's house and in hundreds more, like this that when a bank really collapses they have to go into hyper mode, that's why all the government people were working overtime. on weekends and the first round of intervention, the first thing to do is just words: Americans can have confidence that the banking system is safe today it's about not sinking the ship we're all on, this is really important , they should say like the government is there to protect this money like you don't need to panic and take all your money out of the bank you're fine you're insured because panic spreads like a contagion you know this feeling like when you feel a sense of The panic will just spread, you don't want to be the last person to act because, and we have some warnings, in the 1930s, 9,000 banks failed, there were huge runs on all these banks, there was no insurance for 250,000, so the people got worried. and they took out all their money at the same time and everything collapsed after the financial crisis of 2008. 500 banks failed and if you remember, there were some banks that were so big that it would have been so catastrophic if they failed that the taxpayers came and bailed them out I gave them everything money to cover all your needs, that's how important it is and in this case the government did everything it could to get everyone's money back over the weekend when the Biden administration took extraordinary measures to ensure that everyone who had accounts in collapse the banks could recover all their money regardless of the amount. 90 of svb customers had accounts over 250k and were uninsured and yet the government was able to give them their money back technically, they didn't use taxpayer money to do this, we don't think we're safe but in reality It was like a fund that all the banks contributed to, so whether or not this is like another bailout, bailout, bailout, bailout.

The bailout is hotly debated and will continue to be debated anyway. The big debate I'm thinking about here is whether or not the government should let banks fail or whether it should always step in and save them when you let banks fail and force them. feel the consequences of their decisions on how they run their banks, but when you let the banks fail you also create this feeling of anxiety that is contagious and right now there is already a bit of economic anxiety flooding our country, inflation is high, there is war. There's more competition with China and trade barriers, people are a little nervous, so the government stepped in with 150 percent of their power to make everyone feel safe, they didn't want to cause another 2008 style crisis I guess that this was the safest approach.

For me, I'm a little worried that this could lead to more reckless risk-taking because we're sending a signal to these banks that if even the smallest ones fail, we'll probably bail them out, which again. It's a good thing this helps quell any chaos, especially in the short term, we don't have people going crazy, we have no reason to run out and take out all our money now, and more importantly, people who have money in small regional banks they feel safe. We're not going to take all your money and put it in banks that are too big to fail, but in the long term it could mean that banks will feel emboldened to continue with ever-bigger bets knowing that the government will bail them out. knowing that there are no real consequences, knowing that they will receive their bonuses, so the debate is heating up now in a new way, you will see a lot of fights, you will see a lot of fights from Elizabeth Warren, who is very smart about this. things and they are also very optimistic about regulating banks, there will be another financial crisis of course when the crash comes the big banks will throw up their hands and say it's not their fault no one could have seen it coming and then they will run to Congress and they will beg. for ransom money and we get locked out, I will probably get it and what will happen next is that we will witness if this government intervention really worked, if the government managed to calm us all down so that the system can continue or if this panic will continue to spread. leading to more banking, more failed banks, and a stark reminder that our modern financial system is a mental construct that leads us all to work together for the prosperity and growth of our society until the dominoes begin to fall. , they knew the taxpayers would bail them out.

They got them out, they weren't being stupid, they just didn't care, yes, because they are criminals, but at least we will see some of them go to jail. We didn't have to break up the bank party. It's over, no. I do not know i do not know. I have the feeling that in a few years people will do what they always do. When the economy collapses, they will blame immigrants and the poor.