Nearly all money is someone else's debt, $1 of bad debt can lead to a chain of hundreds of people - each losing $1.
And if the government steps in with FDIC or other protections to prevent hundreds of people losing $1, then the government has to print more money, and inflation happens.
There is no good solution.
Even if we have a cascading failure, the FDIC coverage backstops at $250,000, and it only recovers depositors, and we are talking about loans here, not deposits.
If banks fail, they fail. It may short term feel very painful for people, that I can agree with. My point is, as both a society and as a market place, need to eat the fruits of which grew from what we have sewn. If that means a lot of people get hurt, maybe finally we'll learn a lesson this time that allowing banks to act with impunity is a terrible idea and distorts the overall marketplace.
Ending those distortions will net win when the dust settles, allowing new players and new ideas to grow.
Keeping depositors whole isn't the same thing as backstopping terrible loans or other bad financial activity. They used to be largely separate entities until the "reforms" of the 1980s and 1990s. Perhaps there is something to be said for separation of concerns here
Practically, no, the FDIC set the precedent last year of full depositor coverage.
I know its un unlikely event but I've always been curious what would necessitate it to fail. As we know, all things can fail.
Sure, but the FDIC “breaking” would require the Treasury to actively repudiate its Constitutional and legal duties.
> FDIC insurance is the federal government’s ability to issue currency AND still maintain purchasing power of that currency
No, it isn’t. The Fed (and Treasury) issue currency. And when the FDIC is coming in the risk is deflation.
Kind of like the PBGC premiums that are wholly inadequate, and the real DB pension insurance is the political power your union has (see multi employer pension bailout a couple years ago).
https://news.bloomberglaw.com/daily-labor-report/biden-to-un...
>No, it isn’t. The Fed (and Treasury) issue currency. And when the FDIC is coming in the risk is deflation.
The short term risk is deflation, but I think the longer term would be still be reduced purchasing power of currency since it would disrupt so much of US society’s ordering, that it would decrease confidence in the US to be as economically productive and secure as it used to be.
Not really given the FDIC’s role: a threat to FDIC reserves would require the kind of broad collapse that would be produced by an economic collapse that would threaten deflation even before considering the loss of money supply from deposit accounts evaporating. FDIC coverage of insured (and even uninsured, as allowed under the systemic risk exception) amounts in such accounts can only reduce to zero the money lost from those accounts, it can never be stimulus that would go beyond neutralizing that additional deflation threat to actually deal with whatever the broader cause of the collapse was.
Now, the separate fiscal and monetary response to that cause beyond preventing losses to deposits might overshoot and produce excess inflation eroding purchasing power, but that’s a separate issue.
“The FDIC receives no Congressional appropriations - it is funded by premiums that banks and savings associations pay for deposit insurance coverage” [1]. Your bank pays an insurance premium to the FDIC.
“FDIC insurance is backed by the full faith and credit of the United States government” [2]. If it burns through its reserves, the Treasury writes a cheque. The reserves are a political check on FDIC’s management; most governments fund deposit insurance straight out of their treasury.
[1] https://www.fdic.gov/about/what-we-do/index.html#:~:text=The....
[2] https://www.fdic.gov/resources/deposit-insurance/brochures/i....
It holds enough capital to cover something like only 2% of insured deposits.
It's meant to cover local contained bank failures. It won't do shit in the event of a domino collapse event.
This is wrong. In the case of a large-scale collapse, depositors have a legal claim on the Treasury through the FDIC.
They absolutely did [1].
[1] https://www.fdic.gov/news/press-releases/2023/pr23019.html
Can you elaborate on why you now think there is a precedent that all deposits for future bank failures are insured?
Also FDIC limit is theoretically a lifetime limit per individual. Again, no actual limit so long as you know the right people.
Also worth pointing out that when financial institution failure hits people personally regime changes follows quickly. It'd be at the ballot box in the US, but make no mistake it'd come swiftly. As a result, politicians will do whatever it takes to prevent that from happening.
Which depositors were screwed for not having the right connections?
> FDIC limit is theoretically a lifetime limit per individual
No. It’s not even a limit at the same institution, just per ownership category.
That is why the CRE loans are such a huge problem. Their debt is owed to regional banks, not the big ones.
That said, the FDIC ignored their playbook and rules to try to calm things down last March. A few more banks went down but not the numbers people expected. That means we're in uncharted territory.. will the FDIC follow their own rules next time or do whatever they want? We don't know.
Less than one year! We had three banks fail—the second, third and fourth largest in our nation’s history—less than one year ago [1]!
None were TBTF, let alone big five. Every deposit was covered. I get that the headline reads hysterically to a lay reader, but less than one year!
[1] https://en.m.wikipedia.org/wiki/List_of_largest_bank_failure...
Correct. The comment I responded to claimed unlimited coverage was limited to the Big 5. We're less than a year from non-TBTF (we let them fail for god's sake) non-big-five banks (a) failing and (b) receiving unlimited depositor coverage.
> That said, the FDIC ignored their playbook and rules to try to calm things down last March.
There's the SOP and there's what they did, there was no relation between the two which means we have no clue what they might do next time.
The intention behind that intervention was clearly to stave off a sector wide run. What held true then and there is by no means guaranteed or even likely to hold true in the event of an actual panic.
As far as I know that is not true. Why do you say that? FDIC limits are applied per bank, per individual, per account type, but there is no individual lifetime limit, and a common "cash management" account technique is to distribute your money to multiple banks so you can take advantage of each bank's limit.
https://www.fdic.gov/resources/deposit-insurance/brochures/d...
I don't know what section of the Federal Register to consult to see if that is actually backed up by something enforceable
What rule are you referring to? FDIC coverage has never had a lifetime limit. That would mean someone who gets an FDIC payout at one bank should rush to pull their deposits at others.
but the government is owned and that will never happen.
If banks fail due to mismanagement, letting banks fail should be done, but you can't really blame the banks for not predicting covid and the massive decline in demand for office space. Protecting against once in a lifetime events won't be profitable and governments will have to end up subsidising them anyway.
The bank (or anyone for that matter) only "lost" the money if they mistakenly believed they still had it in the first place. This is the same kind of analysis that leads people to claim they only lose money in the stock market if they sell after stock price drops. For tax purposes in the US it does work that way. But in reality, the money was gone the minute you bought the stock. There is never any guarantee of a future buyer or for that matter a guarantee of a brokerage even interested in executing your order.
No, but the seller’s bank does.
Banks don't liquidate assets to get "lendable money" so I guess maybe I don't understand the original statement at all then.
True - what I meant was they can't just have a house on the books and loan out 100% of the difference between its value and what's still owed on it, because if the loans start defaulting they need a margin of error in case they can't sell the house for what they thought it was worth at the time of buying.
Also the seller is now less a real asset. Their liquid asset worth hopefully went up in the sale. But their total net worth should be around the same, minus any fees they paid during the transaction.
Mortgages are assesed on risk-based metrics in terms of how much equity a bank must hold against each dollar loaned, and how much liquidity as well.
Apologies. The comment you're responding to makes multiple fundamental errors [1], so the discussion is a tad tough to follow.
[1] Banks have enough capital to absorb these losses, capital isn't cash, loss reserves aren't cash, there is no chain reaction of defaults in basic lending, bank failures and rescues aren't inflationary
If the house burns down in a fire, the bank is still owed its $200k, assuming it's a full-recourse mortgage. Same if the house's value drops to zero for some other reason. The money owed to the bank is separate from the house (again, in a full-recourse mortgage).
Of course, you can't sell the house and keep the mortgage, but that's only because the bank wants to be sure it will get its money; it's not because the bank owns a share of the house. Same story with the bank forcing you to insure the house.
So I think it's wrong to say that the bank owns a share of the house. Which raises the question: what, precisely, is the asset that's on its balance sheet?
(Hopefully I'm being clear that I'm not asking what GAAP says. I mean what does the bank have that it didn't have before?)
EDIT: this problem doesn't arise with a non-recourse mortgage, where the bank's asset is pretty clearly a share in the house. If the house burns down, the bank loses its money.
The asset is a debt instrument, with everything implied by the specifics of that instrument.
If I own stock in Microsoft, it means I own a percentage of all its assets (real estate, intangibles, etc), along with a right to a percentage of its revenue streams. Plus I run the risk of my asset being worthless if Microsoft fails. So I know what that means.
Similarly, if I own Microsoft bonds, it means I have a right to a fixed revenue stream from it, and further, can claim a proportion of its assets if it stops paying me. So I can be said to 'own' a proportion of its assets, insofar as I have certain rights over them. And again, I run the (smaller) risk of my asset being worthless if Microsoft fails.
If I have lent Bob money on a non-recourse basis to buy a house, it's a similar story: I have the right to a fixed revenue stream from Bob, and can claim his asset if he stops paying me. So again, I can be said to own a proportion of the house, less whatever I'd pay him if I seized it. And again, I run the risk of the house burning down, etc etc.
In all three of these examples, my balance sheet asset refers to something real.
But if I've lent Bob money on a full-recourse basis, what is the asset? Not the house -- we've established that. Not the cash -- the cash is gone. So what is the debt instrument in my balance sheet based on?
The full-recourse loan instrument gives you access to any other assets Bob may have (including future assets such as wages).
They may start existing at some point in the future, or they may not.
How can I claim ownership over something notional?
The whole point of a loan (of any kind) is that it comes with risks. Different types of loans have different risks, and allow ownership claims of more or less things distributed in time and space). But no loan is risk-free, and so the idea that a loan provides an ownership claim of something that only notionally exists doesn't seem particularly strange.
Obviously I have claimed a right to $200k of future revenue streams Bob is able to provide me with (plus interest).
So ISTM that the 'asset' I would claim to own is Bob himself. I don't own a house or company stock that provides me future revenue streams; I would claim to own a share in a person that provides me with the same. This seems the only logical way to understand the situation.
You lent Bob the money with (hopefully) a clear understanding that in so doing, you could end up not receiving back some or all of the principal and interest. You adjusted the terms in various ways to decrease the chance of that happening, but you did not do this by acquiring ownership of anything.
If I have a claim on Microsoft's future revenues, this implies that I own a share of Microsoft. If I have a claim on Bob's future productivity, this implies that I own a share of Bob.
And so it is with Bob, metaphorically speaking.
But this doesn't affect the argument. In fact, it looks as though you agree with my suggestion, which is that being owed money (on a full-recourse basis) by Bob has a very strong resemblance to being a shareholder in Bob.
And the fdic does not fill its coffers from tax revenue. It is funded entirely by required payments from Banks. The FDIC will raise its required fees from banks, and the consumers want paying through their banks, not through taxes or printing. Though it does hurt consumers in the end.
But if its coffers run dry, the US treasury pays out.
Nope, the headline refers to loss reserves. The specific reserves these banks have set aside for these loans. The article alleges they need to increase those. That might, at worst, hit their earnings.
> all money is someone else's debt
All money originates as a loan. (Other than federal spending.) That link disappears the moment it’s created.
> if the government steps in with FDIC or other protections to prevent hundreds of people losing $1, then the government has to print more money
Deposits are highly liquid. Replacing a deposit with an FDIC guarantee isn’t generally inflationary. (In practice, the FDIC having to step in tends to dampen credit and money velocity.)
Its probably not? Money is created as debt:https://www.bankofengland.co.uk/-/media/boe/files/quarterly-...
You can really think through this yourself logically:
- There is nothing magic to lending money
- Interest paid back creates an incentive to lend money (not to borrow it)
- Borrowed money always (ALWAYS) represents risk, because the borrower may not be able to repay.
- Risk must always be measured. You can choose to ignore it, but it never goes away.
- If money is created as debt, how do you explain bankruptcies?
Interest compared to return on your use of money may not be any kind of disincentive (you profit by borrowing, that's the expectation)
Lent money always (ALWAYS) represents risk as well, for the same reason given above.
There's risk in anything, sometimes to proceed you accept it. Calling that 'ignoring it' doesn't make it any more important.
And I have no idea what the comment on bankruptcies is about.
But I agree on the main point, which is some armchair pundit like the OP finds it easy to draw a circle around a cherry-picked part of the economy-space and say "See! Some Obvious Conclusion!" and think they've said something. You have to look at all of it of course, as a complete system.
Banks typically loan money they don't have on hand (see fractional-reserve banking). And when they do that -- money is created out of thin air. Bankruptcies have nothing to do with it.
Retail banks need to have the money on hand to lend. That can come out of deposits (leaving a portion in reserve for liquidity, should the deposits need to be redeemed. (hence, fractional-reserve)) or other capital. There's a ledger that has to balance.
A Central Bank (at least one that is in control of its currency) can lend money and have it essentially come from thin air.
Part B is then saying that if the debt chains collapse, erasing massive amounts of money, partially backfilling people via the limited insurance will cause inflation?
Please clarify this contradictory reasoning.
There's no good solution after the fact once the horses have bolted.
You can address it up front with regulation and don't leave the barn door open all the time.
This is not correct.
Loans create money. So the creation of money involves the creation of the loan. But if the loan is poofed, the currency doesn’t go away. (Think: loan to buy a house makes money, seller gets the money, buyer defaults, loan is impaired.)
Why would that happen?