Question

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What is a "bank run” and how does it cause bank failure?

Answer 1

A bank run is a situation a large number of bank customers withdraw funds from their bank accounts all at the same time. Banks on the other hand don’t keep huge deposits available in cash for immediate withdrawal. Instead, it is available in the forms of loans and other types of investments in a bank. Banks only keep small amounts of cash in bank vaults and ATMs. Thus, a sudden increase in demand for deposits can leave a bank unable to give customers their money and it can further put the bank in a very weak condition as the banks in order to fulfil their customers demand will try to sell out it’s investments at an unsuitable period which means the bank will go in loss. And this situation will turn out to make a bank insolvent.

Furthermore, when the bank is not able to satisfy customer demands for withdrawals or if there’s a rumour that the bank will be unable to do so the situation becomes worse. Customers develop fear in their minds that their money is in danger and maybe they will be the last one’s to exit so they attempt to withdraw as much as possible. In a worst-case scenario, a bank may be unable to meet obligations, leading to complete failure.