A bank run is a situation in which depositors panic and withdraw their deposits simultaneously from a banking institution. The result of the massive drain on the bank's resources is often insolvency for the bank, ironically creating a situation in which a panic about insolvency creates an insolvency. When multiple bank runs occur at once, the result can be a widespread financial crisis known as a banking panic. Banking panics have played a prominent role in numerous financial crises, such as the Great Depression in the United States.
The process which leads to a bank run is typically gradual. First, the economy begins to take a downturn, causing consumers to become restless. Then, consumers start to worry that their funds on deposit are not safe, and they consider withdrawing those funds and putting them in another institution, or withdrawing them from circulation altogether. As panic builds and consumers grow more and more stressed, they descend upon a bank in a massive group to demand their funds on deposit.
Banks, however, do not retain all of the funds they have on deposit. Most banks use a system known as fractional-reserve banking, in which a percentage of overall deposits is kept on hand, while the bulk of the funds on deposit are invested in a variety of ways. This practice allows banks to make money. When enough bank customers arrive to demand their funds, a bank may run out of funds on hand, and become insolvent.
As a bank struggles to meet consumer demands in a bank run, it may call in loans, securities, and other investments, thus causing a ripple effect. Debtors may become insolvent as a result of a bank run, as might companies associated with the bank's investments. Once one bank fails as a result of a bank run, it can also stimulate further panic and uncertainty, causing a banking panic.
Many countries have measures in place which are designed to mitigate the effects of bank runs. In the United States, for example, the Federal Deposit Insurance Corporation (FDIC) guarantees deposits of up to $100,000 US, which means that even if a bank becomes insolvent, bank customers will still get their money back. For customers with an excess of $100,000 on deposit, however, a bank run creates the risk of losing those additional funds, which may devastate savings and retirement accounts.
During a financial panic, it is important for banking customers to keep their heads. Anyone who has funds on deposit in an institution which is struggling financially has certain rights as a consumer. These rights are typically outlined in the pamphlets the bank provides when someone opens an account, and customers can also contact agencies like the FDIC or the equivalent for more information.
