Analysis of over 3,000 bank runs by the Federal Reserve Bank of New York (New York Fed) has revealed that poor underlying fundamentals are key to the impact that bank runs have on an institution’s long-term health.

“We find that a bank has a 38 percent probability of failing if it is subject to a run,” the New York Fed said. “This is a high conditional probability of failure […] At the same time, it also implies that a run is not a death sentence.”

Bank runs are not only significantly less likely for banks in the top deciles of fundamentals as defined by the institution, but they also almost never result in these banks’ closure. In contrast, the bank said, those in the first decile have a 63 per cent chance of failing when subject to a run.

By the fourth decile, a bank run has a lower than 50 per cent chance to result in failure, according to the study. “Thus,” the institution added, “weak bank fundamentals are necessary for a run to be associated with bank failure.”

The bank fed over 374 million newspaper articles into a series of large language models to help them arrive at a structured dataset through which to conduct this analysis. The LLMs were then used to identify reporting on bank runs and explain how they responded. This was paired with hand-coded samples to validate the LLM’s output.

These results uncovered that strong banks employ a variety of tactics to survive runs when they do take place. Their first step is to accommodate withdrawals and attempt to show depositors they are solvent through tactics such as “delivering a truckload of cash” to the bank.

To inject additional cash, owners would sometimes inject additional equity into the banks or borrow from other institutions. This would often be followed by a partial suspension of convertibility, invoking 30-to-60-day notice rules for savings deposits, with total suspensions for extreme runs. These suspensions were often paired with examinations by government officials or local clearinghouses to evaluate solvency.

These, alongside the occasional use of clearing houses, enabled solvent banks to sever the link between illiquidity and insolvency, allowing them to remain open.

The paper concludes that “Our findings lend little support to the view that small shocks by themselves can result in widespread banking panics that cause major economic downturns.” It adds that although bank runs can become triggers for bank failures and crises, insolvent banks, which will largely be those with weak fundamentals, are necessary for runs to “devastate the banking system and the economy.”

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