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Evolution of Deposit Insurance in America – The FDIC


Evolution of Deposit Insurance in America – The FDIC

This is the first of a series of articles that look at the evolution of deposit insurance in America. This article presents an overview of deposit insurance in America, with an emphasis on the Federal Deposit Insurance Corporation (FDIC).

There’s nothing like failure to inspire change. The run on banks during the Great Depression led to the creation of federal deposit insurance. It protects depositors, completely or partially when banks find themselves so financially strapped they cannot pay their debts. The Glass Steagall Banking Act of 1932 and the National Housing Act of 1934 launched the federal deposit insurance system. For commercial banks and savings bank the agency was the Federal Deposit Insurance Corporation (FDIC) and for savings and loan institutions, it was the Federal Savings and Loan Insurance Corporation, (FSLIC), which was administered by the Federal Home Loan Bank Board (FHLBB). In the 1980s, the FSLIC went bankrupt which lead to the FDIC assuming responsibility for the Savings Association Insurance Fund (SAIF).

It’s ironic that nearly as many deposit insurance systems have closed as have opened in the United States, according to the paper, American Share Insurance: The Sole Surviving Private Insurer in the United States. Today the remaining primary deposit insurers include the FDIC, the National Credit Union Share Insurance Fund (NCUSIF) and the privately owned American Share Insurance (ASI).

The role of the FDIC is huge. No depositor has ever lost a penny of insured deposits since the FDIC was created in 1933. The FDIC went into temporary effect on January 1, 1934 and the deposit insurance level was $2,500. By 1950 the limit increased to $10,000 and continued to climb until 1980 where it went from $40,000 to $100,000 and stayed there until 2008 when the limit was raised to $250,000 where it remains today.

During the 1940s, the federal government’s funding of World War II contributed to the rise of banking assets. U.S. securities made up 57% of total banking assets. By 1946, the FDIC insurance fund had a balance of $1 billion. By 1960 that amount had more than doubled.

It was the 80s though, that would prove the testing ground for the FDIC. In the 70s, the economy slowed because of "stagflation," the economic problem of excess capacity and unemployment coexisting with inflation and no economic growth. Things came undone. The S&L industry had massive amounts of low, fixed-rate mortgages from the 50s and 60s. Trouble was, the gap between what the S&Ls earned on those mortgages and what the S&Ls paid for new deposits eroded the capital of the S&Ls. They tried to make up for it largely with wild bets on real estate. The weakening real estate market and the fall in oil prices was the one-two punch that knocked many S&Ls out of play as they went bankrupt. During the 80s the FSLIC’s capital was depleted. To make a long story short, S&L and bank failures rose due to economic, financial, legislative and regulatory activities.

The 80s also brought the Competitive Equality Banking Act of 1987 (CEBA), which was the first legislation to explicitly say that insured deposits are backed by the full-faith-and-credit of the U.S. government.

Just look what happened in 1984. That year, Continental Illinois National Bank in Chicago, with $34 billion in assets failed. Up to that year, it was the largest bank to fail in the FDIC’s history. The bank was weakened by its participation in Penn Square energy loans. Continental experienced a high-speed electronic bank run. Bank regulators propped up the bank with a $2 billion assistance package. The FDIC promised to protect all of Continental’s depositors and other creditors, regardless of the $100,000 limit on deposit insurance. It was deemed “too big to fail”. Also, that year was an ominous first – the FDIC spent more on resolving failures than it received in premiums.

The 80s also brought the Competitive Equality Banking Act of 1987 (CEBA), which was the first legislation to explicitly say that insured deposits are backed by the full-faith-and-credit of the U.S. government. CEBA authorized $10.75 billion to recapitalize the FSLIC over a three-year period and granted the FDIC bridge-bank authority.

Toward the end of the decade, in 1988, First Republic in Dallas and Houston, Texas, with $31.2 billion in assets, failed. It was the costliest FDIC resolution to date at $3.7 billion. A year later, the most important banking law since the Great Depression, the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA) was created. This was one of the first statutory attempts to re-regulate the banking and S&L industry. This act authorized the use of taxpayer money to resolve S&L failures. Of much importance, it abolished the FSLIC, which had provided deposit insurance to S&Ls since 1934.

In 1989, 206 FDIC-insured banks with $29.2 billion in assets failed – the most in FDIC history. Two-thirds of the banks were in Texas. The S&L crisis which began in the early 1980s ended by in the mid-90s. The toll was devastating – 1,600 bank and 1,300 S&L failures.

The early 90s were rocky too. By the end of 1991, the FDIC’s Bank Insurance Fund (BIF) was insolvent to the tune of $7 billion. Among the many things, the Federal Deposit Insurance Corporation Improvement Act of 1991 did, was to give the FDIC the ability to borrow $30 billion from the U.S. Treasury to replenish BIF. By 1993 though, banks were rebounding with record profits of $43.1 billion. Only 41 FDIC-insured banks failed, the lowest in more than a decade.

The next crisis would come in 2008 when the economy tanked. That year, WaMu, with assets of $307 billion and $188 billion of deposits had the distinction of being the largest bank to fail in the U.S. To stem the potential bloodbath, JPMorgan Chase acquired WaMu’s banking operations in a deal facilitated by the FDIC. Depositors were fully protected and there was no cost to the Deposit Insurance Fund.

the standard maximum deposit insurance amount was permanently raised to $250,000 on July 21, 2010 as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act

Soon after WaMu's failure, a bailout of the U.S. financial system was enacted into law. Part of the bailout temporarily raised the standard maximum deposit insurance amount from $100,000 to $250,000 until December 31, 2009. In May 2009, another law extend the temporary increase in deposit insurance to December 31, 2013. Finally, the standard maximum deposit insurance amount was permanently raised to $250,000 on July 21, 2010 as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

The financial crisis took a toll on the nation's banks. The number of bank failures increased from 25 in 2008 to 157 in 2010. The year 2010 marked a turnaround for the bank industry and the FDIC. The number of bank failures started to fall after 2010. Also, the FDIC Deposit Insurance Fund began to climb out of a large deficit ($20.9 billion). By the end of 2010, the deficit had been reduced to $7.4 billion.

The bank industry and the FDIC Deposit Insurance Fund have continued to slowly improve since 2010. Each year since 2010, fewer banks have failed. Only eight banks failed in 2015, and as of the third quarter of 2016, only five banks have failed for the year and the FDIC Deposit Insurance Fund had a surplus of $80.7 billion.

Editor's Note: For details of the current state of deposit insurance coverage, please refer to the article, “Safety of Your Money - Deposit Insurance Coverage Limits.”

Comments
jimbeau
jimbeau   |     |   Comment #1
Interesting, well written article. I didn't realize that the FDIC wasn't explicitly backed by the US government until the 1980's. Of course, that means ultimately taxpayers are on on the hook if the FDIC ever goes completely insolvent.  So, in effect, all of the banks are too big to fail.
Anonymous
Anonymous   |     |   Comment #2
If the FDIC ever goes insolvent, you will have bigger problems to worry about than what the taxpayers are on the hook for.
Anonymous
Anonymous   |     |   Comment #3
Forget FDIC, it is only a tiny insurance fund for the small and mid size banks. If any of the big banks fail, it is the end game. Furthermore, Obama and the democrats amended Dodd-Frank law to read: If a bank fails or an economic event makes the bank under stress, they do not have to return any money to their customers by inserting the following in the law: " The money deposited in any bank belongs to the bank at the moment of deposit and they are not obligated to return it to their customers in event of insolvency or other circumstances and or negative rates may be applied to the customers until such time the bank becomes solvent or the economic situation changes for better." Under Dodd-Frank, banks are also required to have plans for a quick shutdown in the event that the bank becomes insolvent—or runs out of money. In such cases the FDIC is locked out. http://dodd-frank.com/
Anonymous
Anonymous   |     |   Comment #17
If this is true about Dodd-Frank then maybe that's why Trump wants to get rid of it or gut it. It wouldn't surprise me as everything Obama has done was a failure and letting two of the clowns who were responsible for the housing crisis write new legislation to "fix" it is the very definition of insanity. Regardless no matter what the FDIC needs to continue to protect savers and the limit needs to remain at $250,000. You don't expect us millionaires to spit up our cash into 20 accounts do you? lol
JMiller
JMiller   |     |   Comment #20
Anonymous, If any of the big banks fail, it is not necessarily the end game. Have you read how the FDIC would handle a big bank insolvency? Do you know what a bridge bank is? Also there was not any amendment to Dodd-Frank that says as you quoted "The money deposited in any bank belongs to the bank etc..." You are not being honest. Also the FDIC is not locked out when a big bank fails but is appointed as receiver should any bank becomes insolvent. http://dodd-frank.com/fdic-board-approves-final-rule-requiring-resolution-plans-for-large-depository-institutions/ The FDIC has a wide range of power when it comes to resolving a big bank insolvency.
Anonymous
Anonymous   |     |   Comment #4
I wouldn't be a bit surprised if during the next four years FDIC insurance is done away with. It provides virtually free insurance in the event of the failure of a financial institution. We are now entering the era of caveat emptor for everything.
Anonymous
Anonymous   |     |   Comment #5
And when that day happens, the price of hard assets like gold, silver, platinum, palladium, and diamonds will explode
Bozo
Bozo   |     |   Comment #6
To: Anonymous (Comment #5). 

The foundation of the entire American economic engine is "trust". The Latin root, "credo", is the basis for words such as "credit" in our every-day vocabulary. We trust that a dollar we deposit in a bank or credit union, insured by the FDIC or NCUA, will be worth at least a dollar (plus interest) when we withdraw it. Thanks to the "rule of law", we trust that a dollar invested in a stock or bond will have a certain transparency.

We trust that an annuity provider will, indeed, pay out as promised., or that a state guarantee fund (subject to limits) will step in. Plainly stated, our financial system is based on "credo", the rule of law, and the concept of a somewhat-level playing field.

  To the ordinary American saver, the FDIC and NCUA are critical linchpins of "credo", the trust that money is secure. Without these institutions, we'd be back to the possibility of bank runs, bank holidays, and the like. Think modern-day Venezuela. 

Personally, I see no constituency for doing away with FDIC or NCUA insurance. As noted in the article, each fund is financed by member institutions (read:depositors), and the "full faith and credit" clause would come into play only in a scenario none would hope occurs.
Anonymous
Anonymous   |     |   Comment #7
Trust? That disappeared a long time ago. History is one thing, the reality of present times is totally different. Greed and corruption has penetrated all levels of our government and corporate offices. I wouldn't put my full faith and trust in any entity these days.
Bozo
Bozo   |     |   Comment #8
To: Anonymous (Comment #7). While I understand the frustration you note, I still think our "rule of law" stands head and shoulders above any other country on earth. At the risk of waxing poetic, we are still the shining star on the hill, albeit with a few sunspots. We do our best to rein in greed and corruption. Sometimes we succeed, sometimes we do not. At least we try.  

The World, in general, passed judgment a long time ago, when it determined the United States Treasury Bond Market was the ultimate "port in the storm" in any world-wide financial upheaval. Plainly stated, if all else goes to heck in a handbasket, buy United States Treasuries. That speaks volumes. The World, essentially, puts its ultimate faith in "our" full faith and credit. And so do I.
Bozo
Bozo   |     |   Comment #9
PS (to my anonymous friend in Comment #7). In how many countries around the World would our collective concerns over the Trump family's potential "conflicts of interest" draw more than a chuckle? Folks of a certain age in the Philippines recall Ferdinand Marcos. Ukrainians think of the oligarghs. Indonesians recall Suharto. Mexicans to this day, the cartels. The princelings of the Chinese Politburo. Then, there's Putin. I, for one, am happy to live under our "rule of law", flawed as it might be.
Anonymous
Anonymous   |     |   Comment #12
And I am thankful I live in the United States, but I still don't blindly trust what our politician say and we are spoon fed by the media. People should be more furious over the TRUTH that all the e-mail "hacking" EXSPOSED than the "hacking" itself, regardless of who or what country did it. Talk about lies and deceit by our politicians and elitists in the world!
Anonymous
Anonymous   |     |   Comment #18
Why is that? Because you think that with interest rates at 0% for the last 8 years that Obama was looking out for savers!?! Trump isn't even in office yet and rates are already going up. No way will FDIC insurance be going away any time soon with conservatives in power..............welfare checks, food stamps, free healthcare and cell phones are probably on the chopping block though.
cactus
cactus   |     |   Comment #15
I stay below the NCUA and FDIC insurance limits, regardless of any supplemental private insurance.
Anonymous
Anonymous   |     |   Comment #16
Very informative article. I didn't realize that there were more bank failures back in 1989 than there were in 2010 although if you add 2008-2012 I bet more banks were wiped out in total. I remember back when they "temporarily" increased the FDIC insurance to $250,000. I was locking in long term CD's just before interest rates dropped off a cliff. I made sure all my CD's were under $100,000 including the interest as I wasn't sure if that insurance was going to cover me 5-7 years out. Good thing because 2 of my CD's were at banks that failed WaMu was one of them and I did 100% of my cash back in quick order. All I can say is thank God for the FDIC as those bank failures were scary.
Bozo
Bozo   |     |   Comment #19
To: Anonymous (Comment #16). Some would argue that deposit insurance is merely a con. Well, if it is, it's a very successful con. The structure of personal financial savings sort of boils down to: savings accounts, tax-deferred retirement accounts, and housing equity. All else is nibbling around the edges. Items (1) and (2) savings accounts and tax-deferred accounts (to the extent they are in IRA CDs) are fundamentally linked to deposit insurance.