October 3, 2023

The Federal Deposit Insurance System has weathered plenty of banking turmoil in its nearly 90-year existence — yet after the extraordinary events of the past two weeks, some experts say the system is broken.

The federal government’s move on March 12 to protect all depositors of failed Silicon Valley Bank and Signature Bank SBNY,
— even exceeding the standard $250,000 insurance limit — triggered a wave of questions about the design of the insurance system, how it affects savers, and whether, if anything, the $250,000 limit What exactly does limit mean?

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“Right now we have a three-tier system,” Morgan Ricks, a Vanderbilt University law professor and former US Treasury Department senior policy advisor, told MarketWatch. In small community banks, he said, “the cap is operative and you can lose your money.” Among medium-sized regional banks, “we’re not really sure” about the significance of the cap, he said, because it depends on whether regulators make a special exception as they did for Silicon Valley Bank and Signature Bank. had to have. Then there are the largest, “too big to fail” banks, “where no one imagines for a nanosecond that the deposit-insurance cap is operative,” he said. “It is a broken system that has caused deposits to migrate to the largest banks as we speak – which is not what we want.”

Such concerns have prompted a string of proposals to overhaul the system, as lawmakers, academics and industry experts suggest raising or eliminating the cap or eliminating the $250,000 limit for certain types of accounts. Is. For example, Ricks advocates removing the cap altogether. Sen. Elizabeth Warren, Democrat of Massachusetts, has called for raising the cap, while Rep. Patrick McHenry, Republican of North Carolina, has said that “all options should be on the table” when looking at possible changes to insurance limits.

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Treasury Secretary Janet Yellen told the Senate earlier this week that her department is not considering “blanket” deposit insurance. A day later, he told lawmakers that the government had taken “strong actions” in the wake of bank failures, ensuring that “Americans’ deposits are safe. Of course, we stand ready to take additional action if needed.” ”

The Deposit Insurance System matters to almost all Americans. According to the Federal Deposit Insurance Corp., more than 95% of American households had a checking or savings account by 2021. The system, which was created in the wake of the stock market crash of 1929 and thousands of bank failures in the early 1930s, was designed to To prevent bank runs and to allow savers to deposit their cash in banks with confidence without having to become experts on bank balance sheets and credit risk. “Deposit insurance allows me to use a bank without worrying that my bank will use my money improperly and I will lose it,” said Todd Phillips, a former FDIC attorney and policy advocate and fellow at the Roosevelt Institute. ” think tank.

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Here’s what you need to know about how your bank accounts are protected — and the potential risks and rewards of overhauling the system.

1. Have the rules changed?

No. Despite all the talk about expanding insurance coverage and special exceptions recently made for failed banks, the rules for ordinary savers are still the same: each depositor at an insured bank is usually allowed up to $250,000 per account ownership category. get coverage. There are many ways to structure accounts and spread cash among banks to cover very high dollar amounts. But don’t deposit more than $250,000 in just one account and assume you’ll be completely covered if the bank fails, experts advise. For now, “$250,000 is the law of the land,” said Ken Tumin, senior industry analyst at LendingTree.

2. But bank failures are very rare, aren’t they?

They’re more common than you might think. According to the FDIC, no banks failed in 2022 or 2021, but four failed in 2020, four in 2019 and eight in 2017.

3. What happened to uninsured depositors when banks failed in previous years?

Tumin said that in most cases in recent years, a healthy bank has taken over all failed bank deposits, including those in excess of insurance limits, so uninsured depositors have retained access to their cash.

But this has not always been the case. When Enloe State Bank in Cooper, Texas, was closed by the Texas Department of Banking in 2019, for example, another bank took over the insured deposits and some other assets, but the FDIC did not charge depositors with accounts over $250,000. Told a claims agent might need it. Review their accounts.

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In some cases, according to the FDIC, it can take years for a failed bank’s assets to be sold, and uninsured depositors may receive premature payments on their claims. To date, the FDIC has paid out about 40% of Enloe State Bank’s claims, agency data show.

4. How much money is uninsured in bank accounts?

According to the FDIC, about $7.7 trillion – more than 40% of US household deposits – was uninsured at the end of 2022.

Prior to this year’s bank failures, uninsured deposit levels were already declining, according to FDIC data. That’s likely because rising rates make Treasury bills more attractive, Tumin said. And now, he said, the banking turmoil will potentially reduce the uninsured figure even further.

5. Are taxpayers on the hook for the additional protection provided to depositors in failed banks?

not directly. As Yellen told Congress this week, “No harm from the resolution of these banks is being borne by the taxpayer. Deposit protection is provided by the Deposit Insurance Fund, which is funded by fees on insured banks.”

If that Deposit Insurance Fund runs short of cash, however, the FDIC has the authority to borrow up to $100 billion from the Treasury to maintain sufficient balances in the fund.

6. Can the regulator wave a magic wand and guarantee all deposits in all banks?

No. Under the Dodd-Frank Act, passed after the financial crisis of 2007–2009, such a sweeping change in deposit insurance coverage requires congressional approval.

In the case of Silicon Valley Bank and Signature Bank, regulators protected deposits in excess of $250,000 by relying on the “systemic risk exception”, which allowed such deposits on a case-by-case basis to avoid serious adverse consequences for the economy or financial stability. – Case allows steps.

“A systemic risk exception is not something anyone takes lightly,” a former FDIC official told MarketWatch. “It shouldn’t be happening on a regular basis.”

7. If the system is broken, how can we fix it?

Phillips, fellow at the Roosevelt Institute, says Congress should consider eliminating the deposit-insurance cap for non-interest-bearing accounts while keeping the $250,000 limit for accounts offering yield. For businesses that may not have the time or expertise to shape the health of a bank, for example, “it makes sense to me to give them deposit insurance to protect the health and safety of the broader economy,” he said. “We don’t want these businesses to lose money just because one bank failed.”

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On the other hand, sophisticated savers hunting for yield may be able to test bank health and bring some market discipline to banks. So for those seeking a yield above the $250,000 limit, Phillips said, “we don’t have to insure you, so you can do due diligence and help make sure the bank makes prudent decisions.”

Another idea, supported by Ricks, a Vanderbilt law professor, and Lew Menand of Columbia Law School, is to get rid of the deposit insurance cap altogether. Ricks and Menand recently wrote in the Washington Post that it would serve the public interest Opinion pillar, by reducing the risk that a single bank failure could cause widespread panic and avoiding payroll disruptions, among other benefits.

8. If deposit insurance is extended, will banks not take on more risk?

Perhaps. Phillips said, “With deposit insurance, if the bank makes successful loans, the bank profits.” And if the bank makes bad loans and eventually fails, “it’s the deposit insurer who takes the loss.”

That’s why Phillips and many others advocating for expanded deposit insurance say change must come with additional regulation. For example, Congress could prohibit banks from holding equity interests in borrowers and require bank directors to be independent of the banks’ holding companies, he said.

9. Will the cost of any expanded coverage ultimately be passed on to consumers?

depends on. Tumin said that if banks are paying higher assessments to the Deposit Insurance Fund as a result of the higher insurance limits, they could pass those costs on to consumers in the form of lower deposit rates or higher rates on loans and higher fees.

But the issue is complex and depends on how you design the evaluation system, Ricks said. And to the extent deposits are already “implicitly insured, and we backstop them after the fact, that underlying insurance is then charged to valuations in the banking system” — so in effect, he said, The costs are already in the system.