The federal bailout of depositors at Silicon Valley Bank was organized with historic speed and may have saved the U.S. economy from a devastating wave of bank failures, but it also highlights the potential need for a dramatic overhaul of the U.S. deposit-insurance system and banking regulations more broadly.
At a hearing before the Senate Finance Committee Thursday, lawmakers asked Treasury Secretary Janet Yellen a question that is on the minds of many Americans: Should regional-bank depositors expect the federal government to bail them out if their bank should fail?
Yellen responded as the letter of the law dictates she should: Uninsured deposits will only be guaranteed if the failure of your bank poses a “systemic risk” to the U.S. economy.
Read more: Yellen says banking system is ‘sound,’ as analysts see little chance for new laws for crisis-hit sector
Of course, nobody thought the failure of a midsize regional bank posed a risk to the entire U.S. economy until last week, and it would be reasonable to expect that regulators in the future may lean on the systemic-risk exception in the law to once again justify protecting the hard-earned savings of U.S. individuals and businesses.
What’s more, it was Silicon Valley Bank’s reliance on uninsured deposits — those above the $250,000 insurance cap provided by the Federal Deposit Insurance Corp. —that made it susceptible to a bank run in the first place.
That’s why some lawmakers, including Republican Sen. Mitt Romney of Utah and Sen. Elizabeth Warren of Massachusetts, are warming to the idea of enacting universal deposit insurance, according to a report in Semafor.
A major concern for other powerful lawmakers is how to pay for that, given that the vast majority of Americans can hardly imagine having $250,000 in a bank account. A spokesperson for Sen. Sherrod Brown of Ohio, the Democratic chair of the Senate Finance Committee, told MarketWatch that Brown believes “any changes made to deposit insurance must protect small businesses and workers, not big investors.”
Robert Hockett, who teaches monetary law and economics at Cornell Law School, argues that because lawmakers reformed the FDIC system so that it was funded with risk-based pricing, lifting the cap entirely would be relatively easy.
“We already base insurance rates on the risk profiles of the banks themselves,” Hockett told MarketWatch. “Riskier banks pay higher premiums like smokers pay higher premiums for health insurance.”
Hockett advocates for lifting the cap entirely, allowing banks to assess fees on larger accounts to defray the cost of the additional insurance and barring banks from assessing those fees on smaller accounts.
An added benefit of this approach is that it would shrink the so-called shadow banking system, or the network of nonbank intermediaries like money-market funds that businesses rely on as cash-management tools, Hockett argues.
“A lot less money would flow into the shadow banking sector, and that’s a good thing,” he said, noting that the opacity of the shadow banking system makes it difficult for regulators and counterparties to gauge its financial health.
The banking industry would likely fight a move to lift the cap on deposit insurance, as increased fees might eat into profits. The status quo gives the industry an implicit guarantee that deposits will be insured, while the cost of that insurance is borne by the more responsible banks and other U.S. taxpayers.
Furthermore, a move toward unlimited deposit insurance could open the door for an even more radical reform of the banking industry, like the introduction of retail banking accounts at the Federal Reserve.
Dean Baker, a senior economist at the left-leaning Center for Economic Policy Research, argued for this step in a recent blog post, writing that modern technology makes it feasible for the government to run a single payments network at a much lower cost than the patchwork of private systems used today. Why allow private banks to fund themselves with cheap consumer deposits when the government is guaranteeing those deposits anyway?
“We would have the Fed-run system to carry out the vast majority of normal financial transactions, replacing the banks that we use now,” Baker wrote.
“However, we would continue to have investment banks, like Goldman Sachs and Morgan Stanley, that would borrow on financial markets and lend money to businesses, as well as underwriting stock and bond issues,” he added. “While investment banks still require regulation to prevent abuses, we don’t have to worry about their failure shutting down the financial system.”
The complementary nature of unlimited deposit insurance and government-sponsored retail banking may dissuade some in Congress from supporting it, given the vociferous opposition to Federal Reserve retail accounts Republicans have voiced in recent years.
Republican Rep. Tom Emmer of Minnesota, for instance, said last year that retail Fed accounts would put the U.S. “on an insidious path akin to China’s digital authoritarianism.”
However, the current system of the public subsidizing private bankers with implicit deposit insurance is likely not sustainable either.
Source: https://www.marketwatch.com/story/unlimited-deposit-insurance-a-radical-idea-thats-gaining-steam-in-congress-8aca02be?siteid=yhoof2&yptr=yahoo