UBS Debate: Liquidity, Not Capital, Decides Who Survives

UBS Debate: Liquidity, Not Capital, Decides Who Survives

As Switzerland debates higher capital requirements for UBS, the real lesson of the 2023 banking crises of Credit Suisse and Silicon Valley Bank is being overlooked: liquidity, not capital, determines the fate of modern banks. 

By Adriano Lucatelli, Co-Founder and CEO of Descartes

In the aftermath of the dramatic collapse of Credit Suisse and its hasty merger with UBS, Swiss regulators and lawmakers are now debating whether UBS, as an enlarged national banking champion, should face stricter capital requirements. The intention is understandable. After all, UBS is now of systemic importance not only to Switzerland but to European and global markets.

But while capital buffers are critical for long-term solvency, they offer little protection in a real-time liquidity crisis. What Credit Suisse and Silicon Valley Bank (SVB) revealed in 2023 is something more fundamental – and often overlooked: In modern banking, liquidity – not capital – determines survival.

SVB's Paradox: High Capital, Zero Liquidity

On paper, Silicon Valley Bank was in good shape. Just before its collapse, it reported a CET1 ratio of around 15 percent, well above the regulatory minimum. To regulators and investors alike, this suggested a resilient institution. But as with Credit Suisse, the headline number only told part of the story.

SVB's capital position failed to capture its concentrated depositor base, its unhedged exposure to interest rate risk, and the illiquidity of its long-term securities. These structural weaknesses were not reflected in regulatory capital metrics – even though they were critical to the crisis that followed.

Capital Ratios Don't Guarantee Resilience

As depositors lost confidence, more than 42 billion dollars in withdrawals hit the bank in a single day. SVB couldn't raise liquidity fast enough to meet these outflows – not because its capital was depleted, but because it couldn't liquidate assets without incurring massive losses.

The lesson is clear: capital ratios may meet regulatory requirements, but they don't guarantee resilience. In an era of real-time banking and digital contagion, only liquidity can absorb the shock of a crisis of confidence.

Rethinking Capital Ratios in Light of Regulatory Flexibility

At the time of its collapse, Credit Suisse reported a CET1 ratio of more than 14 percent – well above the regulatory minimum. To many observers, this suggested a well-capitalized institution. But this figure masked a more fragile reality.

Under the Swiss regulatory framework, the Swiss financial market authority Finma applied specific filters that allowed certain deferred tax assets, intangibles, and transitional adjustments to count toward regulatory capital. While these practices were within the rules, they can significantly inflate the reported CET1 figure – creating a false sense of security.

Doubting the Meaning of Capital Ratios

In practice, Credit Suisse's «effective» capital position was significantly lower than the headline figure suggested. When liquidity dried up and confidence evaporated, this paper strength proved insufficient.

This case highlights a critical flaw in the way capital adequacy is measured: when the quality of capital is diluted by regulatory interpretation, the ratio itself becomes less meaningful. It underscores why liquidity – not filtered capital –is the truer test of resilience.

When Trust Breaks Down, Capital Means Little

In both cases, the downfall began not with a collapse of capital, but with a collapse of trust.

At Credit Suisse, years of reputational damage culminated in the first quarter of 2023 with a massive outflow of over 110 billion francs ($125 billion) in assets and deposits. Within days, the bank needed emergency liquidity assistance from the Swiss National Bank. Days later, it ceased to exist as an independent institution.

Neither Bank Was «Undercapitalized»

At SVB, a digital bank run wiped out $42 billion in deposits in 24 hours. Regulators shut it down the next morning. Neither bank was «undercapitalized» – but neither could survive a sudden loss of confidence.

Traditional credit ratings lag. In contrast, credit default swap (CDS) spreads moved quickly in both cases, reflecting rising liquidity and confidence risks well before the official downgrades.

Market Implied Risk Knows First

CDS spreads widened significantly for both Credit Suisse and SVB before the markets fully grasped the severity of their problems. These market-implied signals, while volatile, are far more attuned to the real-time fragility of bank funding.

In today's world, where sentiment can shift in hours and liquidity can evaporate in minutes, capital is a lagging indicator. CDS spreads are a leading indicator.

Why Liquidity Risk is Difficult to Regulate

Unlike capital – which is tangible, audited and stress tested – liquidity is intangible and based on trust. A bank may look liquid, but if counterparties and depositors stop believing in its stability, it can become illiquid overnight.

Digital banking exacerbates this fragility. In the mobile age, no one queues up at a branch – they withdraw with a tap. The speed of outflows has outstripped the speed of traditional risk oversight.

That's why focusing on capital ratios alone is no longer enough.

UBS: What Really Needs Strengthening

UBS is a strong institution today, with robust capital and governance. But its post-merger size means that any confidence shock would have enormous systemic consequences. Calls for higher capital may make political sense – but they don't address the core issue: liquidity preparedness.

Instead, we should be asking:

• How quickly can UBS access central bank liquidity in an emergency?
• How resilient is its funding model under stress?- How does it monitor and model digital outflow risk?
• How is its liquidity buffer structured - and how much of it is actually available within 24 hours?
• What does the CDS market tell us today?

A Better Framework for the Next Crisis

Capital regulation is still essential. But it is no longer the only measure of resilience.

Both Credit Suisse and SVB «passed» the capital test – until the moment they failed the liquidity test. And if capital can be engineered, filtered or misunderstood, its role must be redefined.

It's time to put liquidity back at the center of how we assess, regulate and manage banking stability – especially in an age of digital speed and geopolitical uncertainty.

UBS may never face the same crisis. But if it does, it won't be capital that saves it. It will be liquidity.