A “bank run” occurs when a large number of people suddenly remove their funds from a bank out of panic that the funds could disappear or lose value. This happens when clients have concerns about the bank’s capacity to pay out withdrawal requests or when the bank itself is unwilling to do so. The spread of false information, such as economic or political news, may also trigger a bank run.
Customers rushing to withdraw their money during a bank run may disrupt the financial system by depleting banks’ cash reserves and triggering a liquidity crisis. Since clients who worry that their bank may not be able to pay out all of their deposits would withdraw money from other banks as well, bank runs can swiftly spread from one bank or institution to another. Hence, financial panics may result from bank runs, causing bankruptcies and even the complete collapse of the financial system if banks, governments, and other institutions are unable to fulfill their responsibilities.
Although bank runs may have far-reaching effects on an economy, almost everywhere has laws in place to stop them. To mitigate the potential for loss to depositors in the case of a bank run, governments may, for instance, guarantee deposits up to a certain maximum. Banks may be regulated by the government to ensure they practice sound risk management and have sufficient capital and liquidity reserves.
The Canadian financial system is not especially weak or susceptible to bank runs. This is because of the high levels of regulation and trust that have developed between banks and their consumers. The government has also developed safeguards to avoid bank runs and financial panics, such as a deposit insurance scheme that insures customers’ money up to a certain limit. To further alleviate the possibility of a liquidity crisis, the Bank of Canada may, if necessary, lend money to banks.
But it doesn’t mean Canadian banks are safe from customers pulling their money out. For instance, a run on the banks might result from widespread panic caused by an unforeseen catastrophe like a worldwide recession or financial crisis. If certain Canadian banks were to be viewed as engaging in hazardous operations and not managing their balance sheets properly, the Canadian banking industry may be at danger of a bank run.
In the end of the day, the Canadian banking system is not widely seen to be especially at risk from bank runs. Customers’ faith in the banking system, the government’s regulatory structure, and the Bank of Canada’s willingness to provide emergency funding to financial institutions are all contributing factors. Yet, in the case of a sudden, unanticipated catastrophe, or if some institutions were considered to be participating in dangerous actions, the threat of a bank run remains.