Question

Bank runs are often described as "self-fulfilling prophecies." Why is this phrase appropriate to bank runs?

a) Bank runs typically fulfill customers' desire for increased savings
b) Bank runs occur due to a collective belief in the bank's insolvency, leading to its downfall
c) Bank runs are influenced by external economic factors beyond the bank's control
d) Bank runs are self-induced by government intervention in the banking system

Answer 1

Bank runs are labeled as 'self-fulfilling prophecies' because the collective fear of a bank's failure can instigate the very crisis depositors fear, leading to the bank's downfall if it lacks the liquidity to meet the sudden withdrawal demands.

Step-by-step explanation:

​Bank runs are often described as "self-fulfilling prophecies" because they occur due to a collective belief in a bank's insolvency, which then leads to its downfall. When depositors believe a bank is in trouble, they may rush to withdraw their funds. This sudden surge in withdrawals can deplete the bank's reserves since banks typically loan out the majority of the funds they receive and hold only a fractional reserve. If a bank run persists, it can force even a previously healthy bank into a liquidity crisis, which ultimately fulfills the initial fears of insolvency that caused the run in the first place. Deposit insurance is one way to prevent bank runs by guaranteeing depositors that their deposits will be protected even if the bank fails.

Bank runs are often described as "self-fulfilling prophecies" because they become true based on collective beliefs rather than actual insolvency of a bank. A bank run occurs when depositors believe that the bank will not be able to meet their withdrawal demands, which leads to a rush of withdrawals. This collective belief causes the bank to struggle with liquidity, leading to its potential downfall.