The Agenda

Mark Calabria on Reforming Deposit Insurance

Matt Yglesias draws our attention to an excellent idea from Mark Calabria at Cato. Calabria begins with a critique of size limits and then pivots to approaching deposit insurance in a new way:

If the ultimate concern is risk to the taxpayer, due to the backing of the Federal Deposit Insurance Fund, then it would seem to be that the obvious answer, and easy to implement, is to limit the amount of insured deposits that can be held by any one bank. The previous limit was 10 percent of the insurance fund, although that could be breached by organic growth (rather than via merger). We should reduce the limit to 5 percent and make such a hard cap. If banks want to take uninsured deposits that’s fine, as long as we limit the risk to the FDIC. And we should also roll back the extensions of deposit insurance coverage in Dodd-Frank. Few households have $250,000 in deposits (and that is just per person, per account). Ultimately we should go back to the pre-1980′s level of about $40,000 and limit that to total coverage per person. If we want to reduce the taxpayers’ exposure, then the more effective way, in my view, is to limit the bank safety net or at least limit the extent that the safety backs any one bank. [Emphasis added]

Reforming (or indeed ending) has long been a hobbyhorse of mine, in part due to the work of Raghuram Rajan and Charles Calomiris. I imagine I’m more inclined than Calabria to embrace Steve Randy Waldman’s idea of inflation-protected “starter savings accounts” or modernized postal savings accounts as an alternative to deposit insurance. And we’ve often discussed Ashwin Parameswaran’s excellent work on the concept of public option banking.

One factor Calabria doesn’t invoke, but which would strengthen his case, is the rise of CDARS, which I briefly touched on in a column last fall:

Though technically deposits are only protected up to $250,000, the effective limit is much higher than that due to the increasing use of the Certificate of Deposit Account Registry Service, or CDARS, a financial product devised by Princeton economist and Clinton White House veteran Alan Blinder. Essentially, CDARS breaks up multimillion-dollar investments from high-net-worth individuals into bite-sized accounts protected by federal deposit insurance. So now even sophisticated investors — the kind who have the resources and the know-how to make informed decisions about which banks are safest — have no incentive to choose their bank on the basis of safety. 

I’d love to see Republicans move in this direction, but my strong suspicion is that any calls for revising deposit insurance would be demagogued like crazy with the help of the largest of the major financial institutions, which have seen their privileged position greatly strengthened by the compliance costs (barriers to entry) and regulatory risk (returns to having a sophisticated lobbying apparatus and longstanding relationships) associated with Dodd-Frank. 


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