As we recently noted, bipartisan senators are readying an amendment authorizing almost-unlimited FDIC coverage for noninterest-bearing transaction accounts as long as the bank accepting them is smaller than $250 billion. Pressing for this, Sen. Warren said the new FDIC backing should only be available to smaller IDIs because, “The giant banks don’t need another subsidy.” Maybe, but this still leaves open a critical question: why should larger banks pay the premiums that back FDIC-insurance subsidies for their competitors? If this makes sense for FDIC insurance, then why stop here? Let’s have the biggest banks also pick up the tab for small-bank modernization, branch expansion, and maybe nicer signs.
If big banks need to nurse small ones along, then the small-bank business model needs a reboot, not de facto nationalization for smaller banks that can’t find their way. Many do. In fact, smaller banks with marketing acumen have long been able to attract deposits by paying a bit more for them. Further, it’s not as if smaller banks can’t get added coverage if they want more deposits. All that’s different is that smaller banks must pay for this themselves instead of sending the tab over to the rest of the industry and, down the road, to depositors and taxpayers.
As a recent note from the Federal Reserve Bank of Dallas pointed out, reciprocal deposits meet the needs of banks that want more FDIC coverage. All it takes is paying a fee for this privilege, and the $500-$600 million total annual cost the study estimates for user banks is clearly sustainable. It’s also far less than the $15 billion or so in added premiums the Dallas study guesses it would otherwise cost everyone else.
There are also brokered deposits for IDIs in halfway decent shape. Again, the IDI pays for this, not anyone else. Does it really make sense for competitors and taxpayers to pick up the tab for small banks with a challenging business model, too cheap to pay for reciprocal deposits, or too broke to get brokered deposits?
Importantly, the cost estimates for added FDIC insurance for noninterest-bearing transaction-account protection is so hard to estimate that even the FDIC couldn’t do it. The FDIC also notes acute definition problems and the challenges of ensuring that a bit more FDIC coverage doesn’t turn into de facto unlimited coverage. Notably, the Senate amendment is short to the point of being dangerous, giving no guidance as to how appropriate accounts are to be defined and what the FDIC could do to prevent a rush to coverage that would cost far more than any current estimate contemplates. For example, could rent-a-bank arrangements soak up the added coverage at a cost to competitors that can stand on their own and to taxpayers in light of this business model’s manifest risks?
But, put aside the questions of inter-industry justice, market integrity, moral hazard, and taxpayer subsidy. Is more FDIC coverage needed to prevent another 2023-style systemic crisis? I think not.
There is much talk of the viral runs at SVB and Signature Bank in 2023 as well as of supervisory failures that made these high-flying banks so vulnerable to sudden blows. Very little has been done since to remedy the incentives that exposed the banks to such concentrated holdings of uninsured deposits. For example, as I noted at the time, SVB demanded that any venture-capital fund it backed condition investments in other companies on agreements that these companies house their accounts at SVB. I thought then and continue to believe this was illegal tying and, even if it technically isn’t, then it was still highly improper and clearly very risky. Still, not a word of rebuke from the Fed.
After decades of moral-hazard rescues, the small biomedical companies living off VC investments could not have been expected to know that SVB was a high-risk IDI that put their payrolls and thus their existence in jeopardy. Instead, supervisors could and should have seen this coming and must and can do something now to prevent it from happening again instead of creating an asymmetrical, unfair, and unnecessary new federal backstop for a selected group of banking organizations that can and should stand on their own.