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Bank Failures Spark Questions Over Deposit Insurance

Following the failures of Silicon Valley Bank and Signature Bank and the inability to find a buyer for either on short notice, federal regulators announced on March 13 that all uninsured deposits at the two banks would be guaranteed, keeping those depositors whole. Our Washington Policy Research team explores the debate in Washington about whether to expand federal deposit insurance. 

Expansion of deposit insurance under debate.

The Federal Deposit Insurance Corporation (FDIC) guarantees deposits at FDIC-insured banks of up to $250,000 in case of a bank failure. Those deposits are restored through the FDIC’s Deposit Insurance Fund, into which banks pay premiums. No insured deposits have been lost since this fund was established. The 2008 Financial Crisis resulted in a bump to the insured limit to $250,000 (from $100,000). But when Silicon Valley Bank and Signature Bank collapsed this month, federal regulators allowed deposits above $250,000 to be guaranteed by declaring the failures a systemic risk to the broader banking system. That helped prevent a larger bank run but also sparked a debate about the role of deposit insurance.  

Deposit flight to bigger banks.

Despite assurances that the fallout from the two bank failures was contained, worried depositors still fled regional and smaller banks with the big banks securing most of those transferred deposits. One of the proposals floating in Washington is to expand deposit insurance to all deposits for two years (or for a shorter period). Proponents argue that it would prevent deposit flight and keep big banks from getting even bigger.

More insurance means higher costs.

Although the FDIC can reduce some impact on the Deposit Insurance Fund by selling off the assets of a failed bank, insuring all deposits would still require banks to contribute more in premiums. Increasing bank premiums would effectively impose a fee on responsible institutions to pay for the failures of their less responsible peers. Further, bank managers might have less incentive to be responsible if they know all deposits are insured. Customers could also be affected if banks choose to pass higher costs on to them. Other options being discussed include keeping a limit but raising it above $250,000 (which would still mean a higher insurance assessment on banks) or creating a private insurance market to cover deposits over $250,000 at well-managed institutions.


Not yet ripe for Congressional action.

These proposals are garnering support from both sides of the political aisle, but evidence of more problems within the financial sector will likely be needed before Congress might act. Congressional action is not the only option, either—the Federal Reserve could impose more capital or liquidity requirements on banks or institute supervisory changes to prevent similar bank failures in the future.

Ongoing public interest.

This issue—and any actions and reactions that stem from it—will continue to weigh on the minds of depositors, investors, and policymakers. We’ll be watching closely as events unfold over the coming weeks and months.

 

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