What Is a Bank Run? Definition, Examples, and How It Works

A bank run is a crisis of confidence. Banks operate on a fractional reserve system, meaning they keep only a small percentage of their total deposits as cash on hand, lending out the rest to borrowers or investing it to generate profit. For example, if a bank has $100 million in deposits, it might hold just $10 million in reserve, with the remaining $90 million tied up in loans or other assets. This system works smoothly under normal circumstances because not all depositors demand their money back at once. However, if many depositors lose faith in the bank’s ability to repay them—perhaps due to rumors of insolvency, economic instability, or a high-profile failure—they may rush to withdraw their funds.

When this happens, the bank quickly exhausts its cash reserves. Since it cannot immediately liquidate its loans or investments to cover the withdrawals, it may fail unless it receives external support. A bank run, therefore, is both a symptom and a cause of financial distress, amplifying underlying problems and spreading fear to other institutions.

How a Bank Run Works

To understand how a bank run unfolds, it’s helpful to break it down into stages:

1. Trigger Event: A bank run typically begins with an event that undermines public confidence. This could be a rumor of mismanagement, a real financial loss (e.g., bad loans), a broader economic downturn, or the failure of another bank. Even if the bank is fundamentally sound, perception often matters more than reality in these situations.
2. Panic and Withdrawals: As depositors hear the news or see others lining up at the bank, fear spreads. People rush to withdraw their money, worried that if they wait, the bank will run out of cash and their savings will be lost. This behavior is rational on an individual level but disastrous collectively.
3. Liquidity Crisis: Banks rely on the assumption that only a small fraction of depositors will need cash at any given time. When withdrawals spike, the bank’s reserves are drained. It may try to sell assets or call in loans, but these processes take time and often result in losses if assets are sold at fire-sale prices.
4. Potential Collapse: If the bank cannot meet the demand for withdrawals, it becomes insolvent. This can trigger a domino effect, as depositors at other banks panic, leading to a systemic crisis. Alternatively, the bank may be bailed out by a government or central bank, or it may suspend withdrawals to buy time.

The mechanics of a bank run highlight a key vulnerability in the fractional reserve system: trust is essential. When trust erodes, the system unravels.

Historical Examples of Bank Runs

Bank runs have occurred throughout history, often during periods of economic instability. Here are some notable examples:

1. The Panic of 1907: In the United States, the Panic of 1907 was sparked by a failed attempt to manipulate the stock market. As trust in financial institutions faltered, depositors rushed to withdraw their funds from banks and trust companies. The crisis was so severe that it led to the creation of the Federal Reserve System in 1913, designed to act as a lender of last resort and stabilize the banking system.
2. The Great Depression (1930s): The most infamous wave of bank runs occurred during the Great Depression. Between 1930 and 1933, thousands of U.S. banks failed as panicked depositors withdrew their savings en masse. The stock market crash of 1929, widespread unemployment, and a lack of deposit insurance fueled the crisis. One iconic image from this era is of long lines outside banks, captured in newsreels and photographs. In response, President Franklin D. Roosevelt declared a “bank holiday” in 1933, temporarily closing all banks to restore calm, and the Federal Deposit Insurance Corporation (FDIC) was established to protect depositors.
3. Northern Rock (2007): A modern example occurred in the United Kingdom during the 2007-2008 financial crisis. Northern Rock, a British bank, relied heavily on short-term borrowing rather than customer deposits to fund its operations. When global credit markets froze, the bank faced a liquidity crisis. News of its troubles led to the first bank run in the UK in over a century, with depositors lining up outside branches to withdraw their money. The British government eventually nationalized Northern Rock to prevent its collapse.

These examples illustrate how bank runs can vary in scale and context, from isolated incidents to systemic crises, but they all share a common thread: a loss of confidence that spirals out of control.

Consequences of a Bank Run

The fallout from a bank run extends beyond the affected institution. For the bank itself, the immediate consequence is a liquidity crisis, often followed by insolvency if it cannot secure emergency funding. Depositors who fail to withdraw their money in time may lose their savings, especially in systems without deposit insurance. Businesses that rely on the bank for credit may face disruptions, leading to layoffs or bankruptcies.

On a broader level, a bank run can destabilize the financial system. If one bank fails, it may erode confidence in others, sparking a contagion effect. This was evident during the Great Depression, when bank failures contributed to a prolonged economic downturn. In extreme cases, governments or central banks must intervene, using taxpayer money or monetary policy tools to restore stability, which can have political and economic repercussions.

Preventing Bank Runs: Safeguards and Solutions

Given their destructive potential, governments and financial authorities have developed mechanisms to prevent or mitigate bank runs. These include:

1. Deposit Insurance: One of the most effective tools is deposit insurance, such as the FDIC in the United States. By guaranteeing depositors’ funds up to a certain amount (e.g., $250,000 per account), insurance reduces the incentive to withdraw money during a crisis. Knowing their savings are safe, depositors are less likely to panic.
2. Central Banks as Lenders of Last Resort: Central banks, like the Federal Reserve or the European Central Bank, can provide emergency loans to struggling banks. This infusion of liquidity helps banks meet withdrawal demands and buys time to stabilize their finances.
3. Bank Regulation: Governments impose capital requirements, ensuring banks maintain a minimum level of reserves relative to their liabilities. Stress tests and oversight also help identify vulnerabilities before they escalate.
4. Suspension of Withdrawals: In extreme cases, banks or regulators may temporarily halt withdrawals. While controversial, this measure can prevent a run from exhausting reserves, giving authorities time to arrange a rescue or restructuring.
5. Public Communication: Restoring confidence is critical. Clear, credible statements from bank leaders, regulators, or governments can reassure depositors and halt a run before it gains momentum.

These safeguards have significantly reduced the frequency and severity of bank runs in modern economies, though they are not foolproof, as seen during the 2008 financial crisis.

Bank Runs in the Digital Age

The rise of online banking and instant transactions has added a new dimension to bank runs. Today, depositors can withdraw funds with a few clicks, potentially accelerating the speed of a run. Social media can also amplify rumors, spreading panic faster than ever before. During the collapse of Silicon Valley Bank (SVB) in March 2023, for instance, venture capitalists and tech entrepreneurs used platforms like Twitter to urge clients to pull their money, contributing to a $42 billion withdrawal in a single day—one of the fastest bank runs in history.

This digital evolution poses challenges for regulators, who must adapt traditional tools to a faster-moving environment. It also underscores the enduring importance of trust in the banking system, even as technology transforms how we interact with it.

Conclusion

A bank run is a dramatic illustration of how fear and perception can destabilize even the most robust financial institutions. Defined by a sudden surge in withdrawals sparked by a loss of confidence, bank runs expose the fragility of the fractional reserve system. Historical examples, from the Panic of 1907 to the Great Depression and Northern Rock, show their devastating potential, while modern safeguards like deposit insurance and central bank support have mitigated their impact.