American Banking System

The American banking system is composed of a variety of private banking institutions, including retail banks, commercial banks, and investment banks.

The United States has experienced the greatest number of financial crises in modern times. This ranges from the 1929 financial crisis, in which the United States Congress enacted the Glass-Steagall Act, which introduced the FDIC (Federal Deposit Insurance Corporation), an independent agency that aims to protect customer deposits in the event of a bank failure up to a maximum balance of $250,000 (pay-off method); to the 2007/2008 financial crisis, which marked the largest financial crisis in history. This crisis began with the failure of several American banks, but subsequently affected numerous countries around the world, including Europe. Following this event, many states considered exercising greater control over banks to prevent future crises.

The events at Silicon Valley Bank in 2023 rekindled investors’ fears of a new crisis like the historic one of 2008. The institution suddenly announced a loss of $1.8 billion and a $2.25 billion capital increase to compensate, but the consequence was a veritable bank run for withdrawals amounting to $42 billion on March 9, 2023. All rescue attempts were in vain, and the bank became insolvent, followed shortly thereafter by two more failures: Signature Bank and Silvergate Bank.

The loosening of supervision on banks with assets under $250 billion meant that SVB was exempted from meeting liquidity requirements.

This restriction meant that only the top 14 American banks were subject to the rules regarding liquidity requirements and periodic supervision. Risk-taking by individual banks is inevitable, and it’s clear that most American banks are not subject to regular supervision.

Although the American banking system is unquestionably the most important and powerful in the world, history has taught us that it is also the most fragile.

European Banking System

The European banking system is relatively new, emerging concurrently with the birth of the European Union. The devastating financial crisis of the late 2000s prompted the European Union to focus on a series of measures to regulate banking and financial crises. Massive public interventions by various EU member states to support banking systems, particularly large banks in crisis (to a lesser extent in Italy than elsewhere), raised the issue of the admissibility of state aid and its compatibility with the EU competition rules contained in the Treaty.

At the European level, the Bank Recovery and Resolution Directive (BRRD), Directive No. 2014/59/EU, deserves attention in order to prevent and manage banking crises. In the most serious cases, since January 1, 2016, a specific procedure has been implemented, called bail-in (internal rescue). This excludes bailouts with public resources, as the state intervenes as a last resort. Therefore, the direct involvement of the bank’s shareholders, investors, and account holders is required to cover any financial losses and replenish capital. The instruments involved include shares and convertible bonds, securities used as collateral, unsecured bank bonds, and deposits exceeding €100,000.

Article Article 11 of Directive 2014/49/EU on DGSs also provides for voluntary and preventive interventions by guarantee funds (such as that in the “TERCAS case”), provided that the beneficiary bank, obviously not in resolution, is subject to supervision by the fund, and that the amounts used meet the “lowest cost” requirement—that is, they are lower than the amounts the fund would have to disburse in the event of depositor reimbursement—and after consultation with the resolution authority and other competent authorities, such as the European Commission as the competition authority. Furthermore, Directive 2014/59/EU (BRRD) requires these interventions to “comply with State aid provisions.”

The Basel framework requires banks to comply with risk-based capital ratios, with particular attention to risk-weighted assets (RWAs). Banks must hold a certain amount of regulatory capital to cover their RWAs.

Recently, the Basel Committee emphasized, in light of recent events, the need for a sound global banking system, supported by effective governance, risk management practices, strong supervision, and international cooperation.

The European banking system therefore appears to be well-monitored and secure due to strong regulations and extensive oversight of banking activities.

Chinese Banking System

Alongside the two previous banking systems—which are rooted in an ancestral history of centrality in global finance—stands a counterbalance to and challenges Western hegemony: the Chinese banking system.

As in other countries, the banking system plays a central role in China’s economy, supporting both domestic and international financial processes. A major difference from the American and European systems is government regulation. China’s banking sector is controlled by both the central bank and other government authorities. This allows the government to effectively influence banking activities and stabilize the economy, but poses certain risks, such as potential problems with unrepayable debt.

In 1978, China had only one financial institution, the People’s Bank of China (PBOC), which served as both a central bank and a commercial bank and managed 93% of the country’s total financial assets. Currently, several private and foreign banks operate in the country, although the most important banks in China are four, all of which are public: Industrial and Commercial Bank of China (ICBC), China Construction Bank (CCB), Agricultural Bank of China (ABC), and the Bank of China (BOC).

In recent years, China has become a world leader in financial technology (fintech). Banks actively use mobile platforms and online services to provide services to their customers. In particular, companies such as Ant Group and Tencent, as well as large public banks, offer innovative financial products through mobile apps and other digital channels. This makes banking services more accessible to the public, including rural areas.

However, based on the Economic Freedom of the World dataset, Huang and Wang constructed a cross-country index of financial repression. The results show that, despite the gradual liberalization of financial markets, the PRC has a higher degree of financial repression than the average for high- and middle-income economies worldwide. The PRC ranked 24th in financial repression among the 145 countries for which data were available in 2018. The average index score for the PRC over the period 2000–2018 was 0.63, 30 percentage points higher than the average for high-income countries and 19 percentage points higher than the average for upper-middle-income economies.

This model of financial reform initially worked reasonably well, in the presence of strong economic growth, but currently harbors risks. Empirical analyses have confirmed that in the 1980s and 1990s, financial constraints had a positive effect on growth (since the lack of variety in financial products left savings allocated primarily to productive investment), while in the 2000s, it had a negative effect. Repressive financial policies have also helped maintain financial stability by boosting investor confidence, albeit with increasing moral hazard consequences over time (risky investments have accumulated over time, such as in real estate, in the belief that in the event of a crisis or failure, the Chinese authorities would intervene to prevent systemic consequences). The combination of a large money supply—from the bank-dominated financial system and the government’s implicit guarantee policy—and the limited pool of financial assets has amplified financial risks.

Even today, Chinese authorities are unwilling to relinquish even a fraction of the great power they hold over the country’s monetary and exchange rate policy: they control China’s capital flows with the rest of the world, the value of the renminbi exchange rate, and the enormous amount of liquidity circulating within its borders. Despite the country’s growth, which positions it as the main rival of the American giant, China has no intention of changing its banking structure despite the potential risks.

Analysis shows that there are three distinct banking systems, each of which presents significant risks and opportunities. From the speculation typical of the American banking system, which is characterized by being dynamic but at the same time poorly regulated and more exposed to risks; to the European model aimed at encouraging mergers and acquisitions among small and medium-sized banks so that the ECB has full supervision of the entire European banking system, but with heavy regulation that, at times, risks hindering the growth of banks and the region; and finally, the Chinese banking system, characterized by the strong presence of the state that on the one hand grants stability and on the other “stifles” the banks. At this point, which banking system is the most virtuous and at the same time the most sustainable? This question cannot be answered, but it is possible to understand which banking system is best suited to a given economic system.

Prioritizing exponential growth or minimizing risks is a subjective choice. It’s natural that in an increasingly interconnected world, a banking system focused on the logic of “minimal risk” may not be enough to ensure the safety of a country’s economic system. As demonstrated by the 2008 financial crisis, the outbreak of a crisis in a major power can create a domino effect, affecting other parts of the world. In light of this, is it perhaps worth encouraging greater liberalization and deregulation? Posterity will decide.

By Domenico Greco