"FDIC" by Alpha Photo is licensed under CC BY-NC 2.0
Bad ideas never seem to die. Instead, they keep being resurrected and act as if they take on a life of their own. So it should be to no one’s surprise then, that raising deposit insurance is back on the table once more in the House. The Main Street Depositor Protection Act is calling for noninterest bearing accounts to be covered up to $5 million—improving from its absurdly high initial proposal amount of $10 million last fall— yet still poorly merited when the facts surrounding the deposit insurance system are taken into consideration.
Consider that 99% of accounts in the United States are already covered under the existing deposit insurance limit. Or the fact that the United States already has the highest deposit insurance limit in the world. Most other developed countries only cover up to the equivalent of $100,000 worth in their currency. Not to mention, the FDIC admits in its own report that most uninsured depositors never incur any losses, and only six percent of depositors who have balances above the deposit insurance limit actually end up being fully compensated. This is because a failed bank’s assets are used to pay for remaining excess balances not covered under the existing limit. In any case, the current bank resolution framework allows for a bank’s assets to be auctioned off and compensate former depositors almost always in entirety, and with certainty for those holding less than $250,000.
Deposit insurance has already been raised multiple times in the past. In 1980, it was raised to $100,000. That decade created unprecedented moral hazard that led to savings and loan institutions to fail in large numbers due to the excess risk-taking encouraged by the heightened insurance limit. Criticism of excess deposit insurance is also accepted by mainstream economists. Researchers at the International Monetary Fund and World Bank conclude that deposit insurance greater than 2x the GDP per capita of a country creates moral hazard. By that standard, the deposit insurance limit should be closer to $160,000 and our current coverage is already excessive.
When it comes to financial stability, there is a misconception held by policymakers that raising deposit insurance will help prevent bank runs before they begin. But this is not true at all. Deposit insurance is an ex post facto tool used to shield consumers in the event of bank insolvency. It is not a remedy for structural weaknesses that banks face in the moments leading up to their demise.
The Federal Reserve’s own report cited numerous oversight failures in the months leading up to the collapse of Silicon Valley Bank in 2023. SVB had three times as many supervisory warnings issued compared to peer institutions, and the bank failed an internal liquidity test and regulators noted concerns regarding the removal of interest rate hedges. The Fed never followed up to ensure these matters were being addressed. The real issue in SVB’s case was not a lack of insurance coverage for depositors, but a matter of poor internal management that never translated into remediative action. Regulators should seek to enforce currently existing rules on the books instead of expanding their influence without clearly articulating how additional supervision and oversight would even help reduce the likelihood of bank failure.
Regardless of whether deposit insurance would be raised to $5 million or is determined by the FDIC, both policies would create more of the very risk that precipitated the global financial crisis and the savings and loans crisis of the 1980s. Lawmakers should be mindful of history and attuned to the incentives they create when they expand government guarantees, which are sure to be a recipe for eventual disaster that get passed on to the taxpayer. Americans for Tax Reform opposes measures to further raise existing deposit insurance limits.
