Bank runs have been a hot topic in the news a lot lately; names such as FTX, Silicon Valley Bank, Signature Bank and more come to mind. This has lead to the TV talking heads (eww…pundits) debating and posturing while the cameras roll, though they say nothing of value. Luckily, I’m in the mood to solve your problems for you. Unlike my last article, where I recommended many solutions to a multi-varied problem, today I’ll do the opposite; admittedly I can only think of one solution, though the solution will have a far-reaching impact.
Truthfully, my one solution on how to fix banking is simple; get rid of FDIC and NCUA insurance. Now, let me explain before you rally the angry mob. Currently the FDIC and the NCUA are the two government agencies that guarantee bank and credit union deposits (respectively) up to $250,000. What started as a well-intended government program has led to our current bank-run scenario. The road to hell is indeed paved with good intentions.
Since Uncle Sam underwrites all of the risk for deposits up until $250,000, banks no longer have an incentive to play conservatively. Additionally, the government has gone out of its way to encourage reckless behavior by eliminating reserve requirements. Banks love to market themselves as a smart, safe place to store funds when in reality this is hardly the case anymore. Instead of being reliable storage houses, banks are now in the business of making YOLO bets. Why does it feel like 2008 all over again? As two great economists have told us before, humans and companies respond to incentives, and you can effectively change the behavior by changing the incentive. If we want banks to be prudent, then we need to incentivize prudence again. Thus, no more government-funded rescues for depositors, make the banks liable for making their customers whole. The incentive will be crystal-clear for banks; be liquid or go out of business, period.
While I condone removing federal regulations, the federal government once again did so only half-way. Once the FDIC and NCUA are removed, we will have full-contact capitalism. Getting the government out of banking would ensure that banks would have to start competing on liquidity again; they haven’t had to do that for quite some time. As recent bank runs have shown, essentially no bank is liquid, much less liquid enough to cover a bank run.
Abolishing the FDIC and NCUA would force the banks to market-and conduct-themselves in accordance with their true values. Using my superpowers, I predict two major types of banks emerge. The first type would be risk-averse, highly liquid institutions that would pay a low interest rate on deposits. Their investment portfolios would compose mostly of index funds and other predictable investments that could be quickly converted to cash when the need arises. These companies (let’s not forget, that’s what banks are; companies) would be readily equipped to handle a run-on the bank, a fact that they can absolutely use to market themselves on. Large swaths of the American population would flock to these banks. After all, the average person just wants a safe place to store their money (there is nothing wrong with that at all, to be clear), so let’s create the incentives that would enable that to actually happen. The second type of bank that would emerge would be a bank that is ill-liquid but would pay a substantially higher rate of return on investments. These banks would take the money that their customers deposit and use it to make higher-risk YOLO bets. They could market themselves to the brave while dropping all pretenses of safety. There is a noticeable and profitable portion of the population that such a model would appeal to.
Of course, We the People have a responsibility to bear in this as well. We’ve been conditioned to not examine a bank closely before doing business with them. After all, why should we if no matter where we go, the Alphabet Boys will guarantee our safety? Most of us perform only a surface-level analysis about a bank (interest rates, locations, fees that can easily be waived, how attractive the teller is. et cetera) before doing business with them. I doubt many potential customers look at Bank of America’s liabilities versus their liabilities, or how much cash they have on hand before opening an account. Having a rough idea of your bank’s attitude towards risk and their financial health is a great first step many Americans can take, regardless of if my solution gets implemented or not. Combing through the financial statements should only a take a few hours per year. Let’s make due diligence cool again!
Regulations and safety nets go hand-in-hand, so let’s get rid of them both!
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