When a bank fails, it can create problems for the wider economy.
People and businesses can lose money they have placed with the bank. This can mean they also lose confidence in banks so are unwilling to bank with them again. It can also disrupt the services that banks provide to customers. For example, payments systems – you might not be able to use your account for a while if your bank failed.
But why do banks fail?
A number of reasons, for example:
- if they make poor investment decisions and not enough profits so they go bust (just like any company)
- if people and companies who have put their money in a bank account take it out quicker than the bank can manage – this is known as a bank run
When banks fail, it makes it more likely that other banks will, too. The 2008 financial crisis showed that problems can spread from one to another, wreaking havoc on the rest of the economy.
How does regulation help?
It makes sure that banks are well managed and don’t make bad or risky investments. An example of this is the Senior Managers Regime, which makes sure that senior bankers are held accountable for their decisions. Regulation also makes banks hold shock absorbers to help deal with bad investments. These shock absorbers are referred to as capital.
Regulation is used to make it less likely people will take out their money unexpectedly. The Financial Services Compensation Scheme ensures that even if a bank fails all deposits under £120,000 will be protected. Banks also have to hold cash (or assets that can be sold very quickly) to cover unexpected withdrawals. This should help make bank runs less likely.
The deposit protection limit rose from £85,000 to £120,000 on 1 December 2025.
Throughout 2018, regulation is also being used in large UK banks to 'ring-fence' some services from other parts of a bank. Doing this helps to protect your access to the banking services we all depend on every day.
Why don’t banks just look after themselves?
Managers and owners understand these risks but, as businesses, they also need to make profit. When trying to do so, they have sometimes not acted as safely as customers or investors would prefer. The financial crisis showed this clearly. When banks are doing well and making money they might take too many risks, assuming that everything will keep going well.
This is summed up by Chuck Prince, the former CEO of Citigroup (one of the largest banks in the world), who said in 2007: 'When the music stops, in terms of liquidity, things will be complicated. But as long as the music is playing, you've got to get up and dance. We're still dancing.'
A few months later, the music had stopped and a global financial crisis took hold.
When trying to make money, banks have sometimes sold products that are not suitable for their customers. For example, some banks made billions from mis-selling PPI (payment protection insurance) to their customers. Regulation and strong supervision can help stop them making similar mistakes.
When making business decisions, banks also may not think about how their actions could affect other banks, the whole financial system and even wider society.
Financial crises can lead to job losses or pay cuts and a higher cost of living. Regulation helps make sure they take this into account.
Regulation helps to prevent many problems that could get a bank into financial difficulty. This will mean there will be fewer failures in the future. But while they are much safer than a decade ago, we can't expect that even well regulated banks will never fail.
