Bloomberg Opinion on how the SVB mess demands a rethink on government bailouts:

The demise of Silicon Valley Bank has put the U.S. government into an uncomfortable position, backstopping depositors like never before to prevent a broader and potentially devastating bank run.

Given the risks, officials did the right thing. The hard part will be figuring out how to handle the consequences.

SVB’S failure shouldn’t have presented a systemic threat. The cash crunch that forced it to sell assets at a loss was specific to its tech-startup customers, not a widespread phenomenon. The Federal Deposit Insurance Corporation was amply capable of handling its liquidation, which would entail reimbursing insured deposits and possibly imposing some losses on uninsured ones. The FDIC has successfully resolved hundreds of other banks this way.

But SVB went down differently. Its customers, goaded by industry influencers, proved surprisingly quick to pull out their deposits ($42 billion in one day). Other banks’ customers started getting jittery, increasing the risk that imposing losses on some depositors might trigger a widespread exodus. So regulators expanded the backstop, pledging to make whole all depositors at SVB and at Signature Bank, a failed institution that had catered to crypto clients. The Federal Reserve agreed to make emergency loans up to the full face value of certain high-quality bonds, to help other banks survive any surge in withdrawals.

This response appears to be working, but it also creates new problems. Although officials insist it wasn’t a bailout — SVB’S managers and shareholders aren’t being rescued — in some respects it was indeed. It’s hard to see how regulators can now impose losses on depositors at any failed bank, meaning that taxpayers have effectively become the guarantors of all uninsured deposits (which amounted to more than $7 trillion last year). Limits on insurance provided at least some incentive for customers to monitor risks and spread their money across different banks. Now they can put it all wherever they get the most attractive deal, risks be damned. Banks can create almost unlimited money in the form of deposits, secure in the knowledge that the government will back them . ...

Solutions exist, but they may require a more radical rethink. One approach: Reduce the potential for bailouts by getting some control over the sheer volume of money-like instruments that might require backstopping. The Fed, for example, could limit deposits and other short-term obligations to the assets that financial institutions pledge in advance as collateral for emergency loans, minus “haircuts” to ensure the central bank wouldn’t incur losses. This would enable the Fed to safely guarantee all short-term debt without relaxing lending standards as it did this week. By removing run risk, it would allow banks to fail with minimal drama or collateral damage. Even better, it would obviate the need for deposit insurance, liquidity requirements and reams of other regulations.

Regulators can’t be expected to eliminate the risk of failures entirely. But they need to consider reforms — including ambitious ones — that would credibly limit the scope of future interventions. Doing more of the same and expecting a different result isn’t a sane response.