An article in the Wall Street Journal wants to add discipline to deposit insurance. Discipline is sure needed, but not what the authors propose.
Headscratcher or Something Else
Please consider The Private Market Can Add Discipline to Deposit Insurance by Thomas D. Lehrman and Randal K. Quarles.
Following the collapse of Silicon Valley Bank, Signature Bank and First Republic Bank this spring, U.S. lawmakers have faced a policy head-scratcher. When bank runs happen on the internet, not at the teller’s window, how can the government ensure that smaller and regional banks can meet increased demands for liquidity during moments of panic? Excessive capital requirements would harm smaller banks more than larger ones, while reducing the demand for liquidity by increasing the amount of deposit insurance would create serious moral hazard.
Congress should revisit the idea of a public-private deposit-insurance program and add a new twist that draws on historical experience. To encourage the growth of the nuclear-energy industry, Congress passed the Price-Anderson Act in 1957, which established a federal insurance backstop for nuclear accidents. Following 9/11, Congress passed the Terrorism Risk Insurance Act to ensure customers could obtain terrorism coverage from property and casualty insurers.
Congress should learn from these laws and propose new public-private deposit-insurance legislation. The bill could require banks to provide private-sector deposit insurance up to a certain threshold per depositor—say $5 million—and mandate that at least 90% of total deposits of each bank be covered by a combination of FDIC and private insurance policies. There is already a model that legislators, regulators and banks could follow: Credit unions have offered excess deposit insurance through private-sector insurance companies for over two decades.
An added wrinkle: If a bank isn’t able to obtain private market insurance for 90% of its deposits during a given year, legislation could require the bank to pay a substantial premium over the private-market insurance rate of peer institutions for additional FDIC coverage. This pricing discipline would give the FDIC confidence that it’s reducing the risk of bank runs without encouraging bankers to act imprudently.
No Headscratcher
There should be no FDIC at all. Instead, what we need is a safekeeping bank.
Fed policies and actions precipitate excessive risk taking. Because of FDIC people have no skin in the game. This encourages people to shop for the best deal not the safest deal because there is no risk up to the FDIC limit.
And banks, following ludicrous Fed forward guidance, excessively speculate on outcomes.
There is no apparent risk now because risk happens all at once. Then, and as recently happened, the Fed had to take extraordinary actions to stop not just runs on a few banks, but runs on the entire system.
This is why the WSJ proposal will not work.
Need for a Genuine Safekeeping Bank
A genuine safekeeping bank is one that takes deposits and parks the entire amount in short-term treasuries. It make no loans and there is never any risk.
Deposits would earn a fluctuating interest rate that is the Fed’s overnight rate minus a safekeeping fee that allows the safe bank to pay its bills.
There is no need for FDIC because there is no risk. Under this proposal, banks cannot borrow short and lend long. Nor can they speculate on future interest rates.
Customers Free to Take Risk
Under my proposal, customers would be free to take risks and seek higher returns but that needs to be their risk.
Importantly, safe banks should not be punished for the risks other banks take.
If some private company, not the FDIC, wants to insure that risk, OK, fine. But ultimately, customers need to understand there is a risk to buying CDs offering interest higher than one can get in short term bonds.
Interest rate speculation blew up Silicon Valley Bank. The way to impose discipline is not another dubious Fed program by people proven to be oblivious to the problem.
The Fed and the FDIC were asleep at the wheel on SVB. The Fed has never called a recession in real time, and is totally clueless about what inflation is.
To fix the problem we need to start over.
How about creating a safekeeping bank that needs no insurance of any kind other than perhaps a token amount for fraud protection to ensure safe keeping banks are doing what’s required.
FDIC did not stop a run on SVB. Had it been a safekeeping bank, there never would have been a run in the first place.
No Band-Aids Needed
Creation of a 100 percent safekeeping bank would in and of itself cause a stampede to safety if the proposal was implemented immediately.
Thus, we need to phase in my proposal until 100% of deposits in demand accounts are parked in short-term T-Bills and all CDs are backed by duration-matched US Treasuries, at every financial institution.
I have discussed this before. I bring it up again due to the proposal by Thomas D. Lehrman and Randal K. Quarles that does not solve the need for having a truly safe bank.
Once that is done, we can kill FDIC and let market rates and private insurance take over.
Discussion and 10 Details
For discussion and 10 specific details on what I propose, please see Dear FDIC and Fed, We Need a Genuine Safekeeping Bank, Not Band-Aids
Of the above, one key rule would have solved the mess at SVB: Banks should not speculate on interest rates.
To counter the claim that lending would cease, deposits don’t fund lending. Rather, lending creates deposits.
Q: Why Don’t We Have a Safekeeping Bank?
A: That’s easy. The Fed doesn’t want one.
Peter Schiff created one and the Fed forced Schiff out. Caitlin Long, CEO and founder of Custodia Bank, wants to create one and the Fed said no.
See the Fed press release: Federal Reserve Board announces denial of application by Custodia Bank, Inc. to become a member of the Federal Reserve System
The Fed does not want competition because it wants to eventually force you at some later date into using its own allegedly safe Central Bank Digital currency.
Meanwhile, expect more Band-Aids.
Irony of the Day Addendum – Legalized Fraud
Silicon Valley Bank, Signature Bank, and First Republic Bank failed due to classic runs on the bank. The banks took customer deposits and speculated on long-term interest rates. When the Fed hiked rates more than expected, bank losses mounted, the banks became insolvent, and customers pulled deposits.
This is a classic example of a duration mismatch scheme that I consider legalized fraud. Money that was supposed to be available on demand was not available on demand.
One cannot legally lease an apartment to two different parties at the same time. Anyone who tried would be quickly arrested. This is in essence what these banks did by investing for years money supposedly available on demand.
Because Custodia Bank does not make loans and because it holds deposits in short term treasuries, a run on Custodia Bank would not cause the bank to fail.
The big irony is the Fed refused to grant FDIC to a bank operating on the safest possible policies but fails to monitor massive speculation (arguably outright fraud) on banks right under its nose.
FDIC did not save foreign depositors at SVB who lost all their money.
Dollar Weaponization Expands – FDIC Message to Foreign Depositors Is Don’t Trust the US
For discussion of how FDIC outright failed foreign depositors, please see Dollar Weaponization Expands – FDIC Message to Foreign Depositors Is Don’t Trust the US
San Francisco Fed was too busy giving woke speeches than doing its job monitoring banks.
If FDIC regulations were followed as intended it would be enough. Instead rules are circumvented by wealthy money brokers in every emergency. During the mortgage crisis, brokers quickly merged with too-large-to-fail banks for FDIC protection. In the latest supposed bank crisis, affluent depositors duped the dumbly Treasury President to skirt deposit regulations.
“parks the entire amount in short-term treasuries. It make no loans and there is never any risk.”
Tell that to the guys in Argentina who just had their deposits cut in half….
More systemically: The demand for the arbitrarily chosen class of “short term treasuries” would be propped so artificially high that the bank would be forced to either turn away most depositors, or go shopping for riskier “risk free” paper.
Even IF one bends over backwards and accepts that an FDIC like construct at one point made sense as some form of risk sharing; since it was logistically impossible to deposit anything anywhere autside ones own local bank branch; that is no longer even remotely true. It is now trivial in the extreme, to diversify ones deposits across banks, and even jurisdictions. Rendering the FDIC completely pointless, even without any form of officially sanctioned replacement.
There ARE risks to holding stuff. Meteors may fall down, Putins, or Bidens, may nuke etc. Playing ostrich and pretending “risk-free” exists, ONLY serves to concenrate risk into pools which, when they do break, end up causing much more colateral damage than if random losses are instead allowed to naturally occur like a low level, random background din.
Reinstitute Glass Steagall and a lot of problems would be solved. Inflation became a problem due to speculation after Glass Steagall was undone. There is a huge bubble in commodities that has little to do with supply and demand and more to so with derivatives and speculative investors using derivatives. We would be back to 1990s level prices on most commodities and inflation wouldn’t be a problem if Glass stegall was reinstated and there was derivatives reform.
Good point. Those who advocated its repeal later said it was a mistake.
There are elements of going back to Glass Stegal here. Hmmmm.
Hold on here. You want all savings to be concentrated in one bank? This bank I suppose it will be controlled by a private entity (Custodia Bank) with Federal oversight so that it will invest in only super-safe securities. By nature this bank would be hardly profitable so it could not pay competitive salaries so I wonder what type of people it would attract to work there and if their motivation is not money then what would it be? Being motivated by money in a financial institution I understand and agree but if the motivation is not money then what motivation would it be?
It seems to me there is very little difference between your concept of a “bank” and a Treasury/Government-only money market fund. There is about $5 trillion in such funds right now. Eliminate the FDIC and depositors seeking safety would flee the banks – they would have to transform themselves into loan brokers who would make loans and bundle them up into structured securities that would be sold to return-seeking investors. Actually US banks are well on the road to this already. Savings and loans were forced into this model after 1987.
Savers never transfer their funds outside of the payment’s system unless they are hoarding currency or convert to another foreign currency, e.g., FDI.
Why would the banking industry support a CBDC?
Nuts.
If a bank has money parked in 30 day Notes and If a venture capitalist says he wants his $250 million this afternoon the bank is still screwed.
The only way this proposal is safe is if demand deposits are eliminated completely.
SVB did not speculate. Their investments were prudent at the time they were made. They did not invest in Argentine bonds, etc. Their problem was that the FRB moved the goalpost after the ball was kicked and in the air.
SVB made the choice not to cover themselves for interest rates going up like just about every other bank did because the Fed was telling them they were going to raise rates. SVB for some reason decided to be contrarian and lost the bet.
> A genuine safekeeping bank is one that takes deposits and parks the entire amount in short-term treasuries
This has been proposed already. See the interview with Raoul Paul [1].
> what we wanted to do was just hold us treasuries directly with the FED I.e no fractional reserve banking. Eventually the Dallas fed stopped us and said this is a great idea but we’re not going to let you do it and nobody will. I said why and they said you’ll take all the deposits from the banking system because everything else is fractional reserve banking
[1] link to youtube.com
What you need to know is that when the FDIC eliminated the unlimited transaction deposit insurance in Dec. 2012, we got the taper tantrum as a direct result. I.e., deposit insurance bottles up savings in the payment’s system. Bank-held savings have a zero payment’s velocity.
Japan also destroys money velocity by having unlimited transaction deposit insurance.
Good Stuff a really simple problem solved.
FED doesn’t want it solved. FED functions perfectly for its shareholders and has to provide an illusion it does something for the people or else why would we need the FED. We don’t need the FED the banks do therefore the illusion must be maintained at all costs.
F the people!
By the way a lot of Government is like this , not all but a lot. An illusion for the people when in reality decision’s are to help others and including MONEY for others. It is a a shame and a SHAM!
Thank you for adding some reason in this insanity. You are right: what the writers do not seem to understand is that the problem is not one bank defaulting (a manageable risk for the society) but that the failure of one sets a panic on all of them!
Hey Mish how are you doing little buddy?Oh my gosh Mish I’m in so much trouble. First of all I’m once again off topic so anyway my wife says I need to immediately stop calling everybody who disagrees with me an asshole! Why? Assholes are pretty much in control and are they not taking over for the most part truthfully? Let’s see here Mish a safe bank, great idea meaning do you remember this great quote Mish”What we have here is a failure to communicate?”Mish you know what I think about bankers and greedy over leveraged credit default swap assholes to the tune of 57 trillion whom we taxpayers had to bailout back in 2008 when sub prime began to bite them in the ass! So now we have more and more people in the country in new positions of authority and leadership, especially black people who are failing everywhere in cities around the country not because they are black, but because they are Democrats! And of course the Pope is pretty much woke, among other goofy things, tells Israel that you can’t deal with terrorism with more terrorism so I guess he likes to embrace-All you need is love and Give peace a chance- yep with Hamas that’ll work!
Truthseeker you’ve got to switch AIs.
This one is hallucinating and becoming incomprehensible.
Ok Lisa please tell me what specifically in my comments offends you little woman?
I can’t be offended by something that’s unintelligible.
Are you drunk, or high?
or both?
I am curious why our Central Bank (and other nations’ central banks) want to switch us all to Central Bank Digital Currenc(ies)?
My own speculation rests on Marxist bail-in ideas, mixed with some of the wackier ideas proposed during our Great Depression. Simple version is that when a bank fails, risking a recession, or when a recession occurs, then our monetary rulers will take money from those that have and give to those who have not and need it. Keynesian ideas of how to get an economy moving again, and Keynes-and-earlier ideas of what the best economy looks like.
Block chain keeps perfect accounting of digital currency. No more tax evasion.
With an automated AI generated matrix of international shell companies it becomes too time consuming to audit for evasion. The ball is always in the air.
The shell company game is something urgently needs to be looked into and reformed so that you can always find who are the shareholders no matter where they are.
If it wasn’t for governments always and everywhere being A)ran by idiots and b)in the business of scamming, and/or of facilitating scamming by their designated more-equal sycophants; that is exactly no problem whasoever:
IF A wants governments to protect his ownership of a house, a share, a patent…. for him; A has to 1)let them know he owns it (duh!), and 2)Pay them for that service (also duh!). Problem solved with greater certainty than gravity.
If A does not tell AND pay: Oh, well; someone else no doubt will pay government to protect it for them…
Ther is absolutely NO reason for pervasive STASI like spying, ratting out of others, slimy ambulance chasers “investigating” and draggiung to kangaroo courts etc, etc.
Instead, all that is needed, is that those who want to avail themselves of the service of protection, must pay for it. A service consisting of courts, police, infrastructure etc. enabling the state to protect property, is not free. Someone has to pay for it. It makes zero sence if the one paying, is someone other than the one receiving the service.
Who gives loans for cars or houses or small businesses?
Luigi and Guido.
See Mr. Soprano for an appointment.
I’d settle for sound money over another scheme to hide risk behind empty promises.
Mish – you neglected to mention the saga of The Narrow Bank led by former Fed official Jamie McAndrews.
link to pmbug.com
It is SO dishonest, what the FED DOES.
How can you have a “safe bank” in a fake money system? The money is not safe and so no bank can make up for that.
Yes, with the federal government being the largest credit worthy borrower, Mish’s idea has merit.
Just posting this for reference.
Postal Banking: What it Means, How it Works (investopedia.com)
No, would never trust this today. Not the same good ole U.S. of A. of William Howard Taft in 1912. Extremely low-trust/no-trust in anything to do with the current federal government, the most prolific crime syndicate the world has ever known.
Historically all partial reserve banks ultimately fail with a bank run unless they hold 20% reserve. Modern banks hold only ~6% reserve. They depend upon the Federal Reserve Bank to save them. The Federal Reserve if fickle. Some times they do. Some times they don’t.
The Dow reached a new all time high. The 10Y kept falling. In the next downturn the
regional banks will cannibalize each other. The spread between EFFR and the
long duration will grow, “Held to maturity” will flip from red to green.
At the bottom the last ones standing will pay good dividends. They will borrow at low
rates and charge as much as the market dictates. They will lend less, but with a higher profit spread. The regional banks will become more powerful and safer when the long duration rises above EFFR and normalized.
We need the federal reserve criminals and the treasury dictator to stop creating alphabet soup bailout programs at every turn. Many “people” have defended them to “save the economy” when its just a save the market function. Those same many have said the Jerome Powell will kill the “fed out”. Bullshit. He has taught gamblers and risky YOLOers to ALWAYS FIGHT THE FED and eventually they will quit and the gamblers and risky YOLOers will make out like bandits.
“Dont fight the Fed” is DEAD
** “Fed put” not Fed out
The pattern is clear. The central banks inflate, the currencies fall, and prices rise.
Gold in 1913 was $20. and change. Now, 100x that.
They keep retes low and markets boom. They raise rates and booms go bust. It seems relatively simple and predictable.
Why in the world have they been able to raise so aggressively this time with stocks and real estate markets continuing to levitate?
Anyone?
There was a hell of a bear market in stocks and bonds last year.
A blip maybe. But the 2009 low was at 6500. The current level is over 37,000.
It’s been pumped to the stratosphere without significant effect from rapidly rising rates.
TINA 2 FOMO
Re: fix FDIC
When Silicon Valley Bank, Signature Bank and First Republic Bank failed last spring, our glorious bank-owned Treasury Secretary Janet Yellen arbitrarily decided that there would be no $250K limit (or any limit) for deposit coverage at those banks. IOW, all depositors would be made whole regardless of how much more than the $250K limit the account was. I still don’t understand how she was able to do that without congressional action to enable the decision. It took an act of congress to pass the temporary boost to the $250K limit during the Great Recession and then another congressional act (AKA Dodd-Frank) to make that $250K limit permanent) and I did not see any congressional act passed to allow Yellen/Treasury/FDIC to do the no-limit determination.
This type of garbage in addition to all the banks covering their derivative gambles with FDIC coverage fairly well ensures that the FDIC will be bankrupted at some point and I would be very surprised if anyone with nominal amounts of FDIC covered deposits will receive anything as the ‘preferred class’ will be paid first.
No bank should be allowed FDIC coverage for derivative gambling and all FDIC limits should be adhered to regardless of what the Treasury Secretary arbitrarily decides before the FDIC is anywhere near being fixed.
There’s flexibility in the law to allow the FDIC the ability to stabilize a troubled bank in order to minimize losses to the FDIC fund. That’s different than what the FDIC can change for all insured banks in aggregate. If a bank has hugemongombous “hot money” deposits, it may well be effective to extend the guarantee and reduce overall losses by stabilizing the funding base. I think the real question would be how both the banks and the regulators each were able to get comfortable with the level of hot money and the real amount of tangible capital that was available. There was a failure to look past the accounting (which allowed mark-to-market losses on held-to-maturity bonds to be ignored) and take stock of what real economic capital was truly there – which was a fraction of what the books said.
I’ve often wondered myself why the public doesn’t have a bank where citizens’ deposits yield a rate of interest comparible to treasuries.
If a government truly is for the people by the people…..then this should exist.
But of course, we all know the answer.
It’s a big club and you ain’t in it!
No, banks create money. The banks should not be allowed to pay interest on their deposit liabilities. The banks should store their liquidity and not buy their liquidity through an open market instrument.
I.e., all bank-held savings originate within the payment’s system. There is just a shift between demand and time deposits. Go fish.
Think about = How do banks create money?
——————
What Mish suggests is very close to what Murray Rothbard described. In Rothbard’s version, demand deposits are kept in a safety deposit box, and depositors are charged that safety deposit fee.
Mish fails to make an issue of demand deposits. No deposits should be pay-on-demand unless they have been deposited in his proposed safekeeping bank, or put in a safe deposit box.
Last, please, Mish, explain your statement “lending creates deposits.” My understanding is that banks operate a bit like a broker, bringing together people with money to lend, and people who desire to borrow money.
No. Banks examine your plan and decide if you are credit worthy. If so, they create an account for you in your name and put digits in the account. That liability to the bank is offset by your repayment promise in the amount of your new account which the bank carries as an asset. The bank’s books balance. “It’s good to be King.” It is also good to be a banker.
No need for such an obnoxious and condescending comment.
Any reasonable person knows a depositor needs to be compensated with interest. It’s not that complicated.
wrote “… a depositor needs to be compensated with interest.”
— Explain how the past few years European banks paid “negative interest”.
The European union is a political vanityproject. The negative interestrate policy was a monstrosity pushed by the European elites onto its subjects. Luckily most depositors weren’t actually charged with negative rates and were instead given 0% for years. This policy fueled speculation, drove up propertyprices and created all sorts of bubbles.
An act of desperation to keep this wicked Union alive.
An insane policy that can’t possibly exist.
If you truly think that the people will accept having their money taken by banks and governments I think you haven’t paid attention to the news.
We can all debate and speculate about what comes next, but I guarantee you that years of devaluation, inflation and loss of purchasingpower has lit a fire.
It’s no coincidence that the more threatened the establishment feels, the more authoritarian, censorious and extortionary they become.
Until something breaks.