New research published Tuesday by the New York Federal Reserve suggests that the underlying financial health of a bank is the critical factor that determines whether a bank run spirals into a serious crisis.
Researchers at the New York Fed wrote in a blog post that available data provide “little support” for the notion that small shocks are capable of triggering “widespread” banking panics on their own.
“Poor bank fundamentals are necessary for bank runs to translate into failure and for bank distress to generate severe economic distress,” the researchers stated. They added that “although runs can occur in both weak and strong banks, poor fundamentals are necessary for runs to result in bank failures.”
The study draws on a newly developed database built using artificial intelligence tools. “We use large language models … to extract information on bank runs from millions of digitized historical newspaper pages, creating the most comprehensive database of bank runs in U.S. history,” the researchers explained.
The blog post also highlighted why it matters to correctly understand how bank runs work. A bank run occurs when falling confidence in a financial institution causes depositors to rush to withdraw their money all at once. “Runs should thus be seen as a trigger for bank failures and crises, but insolvent banks are necessary for this trigger to devastate the banking system and the economy,” the researchers wrote.
