Deposit Insurance That Serves The Public

Federal deposit insurance is a subsidy that backfired. It is a subsidy because, although funded by bank contributions, it is backed by the credit of the U. S.--meaning the taxpayer. So many banks have failed and so many depositors have been reimbursed that Congress is now considering an FDIC bailout in the form of a $70 billion cash infusion.

The subsidy has backfired because it has hurt the industry more than it has helped. Deposit insurance certainly gives banks a leg up over their nonbank competitors in attracting funds. But it also shields banks from healthy market forces. Because deposits are insured, weak, badly managed banks can attract deposits just as easily as strong, well-managed ones. The result is that good banks aren't sufficiently rewarded and bad banks aren't sufficiently punished.

Banks operate with the money of other people--many of them individual depositors of modest means--and this society has made a judgment that those funds need protection. That is the root of the government's guarantee. What's needed is to make the system function better. Here are some ideas:

-- Lower the deposit insurance ceiling from $100,000 per account to $50,000 per person.

-- Charge FDIC premiums on a sliding scale: The riskier the loan portfolio, the higher the bank's premium.

Free regulators and the insurance funds from congressional interference. Regulators must be free to protect taxpayer money and the financial system without worrying about a powerful congressman who is being leaned on by an influential constituent or contributor.

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