STEVE MOORE: A Dose Of Moral Hazard

I am never a fan of expanding government. More government always either costs taxpayers money through programs or subsides, distorts market incentives or imposes some kind of regulatory burden on businesses. In the end, except for a favored few, consumers, businesses or taxpayers are almost always worse off. The Trump Administration has done a wonderful job with tax policy. And Trump’s attack on senseless regulations that cost our economy at least $2 trillion annually will go down in history as sound economic policy.

That’s why I am surprised that Treasury Secretary Scott Bessent appears to be supporting an increase in the Federal Deposit Insurance Corporation’s (FDIC) limit on deposit insurance from the current $250,000 per ownership account to $10 million. 

The proposed increase in insurance coverage is not merely keeping up with inflation, but a fundamental change in FDIC insurance. The FDIC was created by the Banking Act of 1933, and in 1935 the insurance limit was $5,000. While $5,000 seems like a small amount, at the time it covered almost all depositors and gave the public confidence in the banking system. Over the years the limit has been adjusted, generally to keep pace with inflation. In fact, the limit was $100,000 as late as 2008 but was raised to the current $250,000 as part of the Emergency Economic Stabilization Act. According to a recent Wall Street Journal article, the $250,000 limit covers 99% of deposit accounts and most small businesses.

Small and mid-sized banks claim that they need a higher limit to maintain customer confidence that depositor’s money is safe. After the failure of Silicon Valley Bank, Signature Bank and First Republic in 2023 the argument is that, while the largest banks are perceived as being “too big to fail,” small and mid-sized banks believe they are no longer competitive because of systemic stability concerns.

There is no doubt that small and mid-sized banks face increased competition. But small grocery stores face competition from Walmart and Costco. Should we create a new government program or subsidy to help them? At less than $10 billion in annual revenue, JetBlue Airways faces competition from Delta, United and American Airlines, all having annual revenues over $50 billion. What favors should the Federal Aviation Administration do for poor JetBlue to help that airline compete with the larger carriers? If it is now U.S. policy to make smaller businesses competitive, where will it stop?

Are small and mid-sized banks actually losing business to large banks? If the theory that the failure of Silicon Valley, Signature and First Republic banks caused a consumer crisis of confidence when it comes to small and mid-sized banks were true, we would expect to see the largest banks gain market share. FDIC deposit data shows that they are not.

The “too big to fail” (TBTF) moniker attached to very large banks is usually ascribed to banks that have been designated as global systemically important banks (G-SIBs) by the Financial Stability Board. There are eight such banks in the U.S., and together they currently account for just under 42% of all FDIC insured deposits. In 2022, the year before the supposed crisis of confidence, the G-SIBs accounted for just over 41%. In fact, since 2020 the TBTF share has consistently been around 41% of total insured deposits. Thus, there is no evidence that TBTF banks are growing at the expense of small and medium sized banks.

In fact, small and mid-sized banks are likely losing customers to alternative banking models in the FinTech world. New business models now leverage cutting edge technology to offer bank like services without the infrastructure of traditional banks. No increase in FDIC insurance limits will protect banks from this new competition.

Since 99% of depositors would be made whole by the $250,000 limit, the $10 million limit would almost exclusively apply to deposits of large businesses. It is standard practice for businesses, large and small to do a certain amount of due diligence when selecting any business partner. That is especially true when choosing a bank. While small depositors do not necessarily have the wherewithal to investigate the soundness of a bank, large businesses certainly do.

Raising the insurance limit to $10 million will take away the incentive businesses and other large depositors have to ensure the soundness of a bank. And, free of any concern about losing customers to bank runs, banks can take on riskier investments. Why worry when you have a government guarantee? Thus, the $10 million insurance limit creates a moral hazard for both banks and depositors. While FDIC does charge banks premiums, ultimately it is the U.S. Treasury and taxpayers that backs FDIC in a time of crisis.

The Trump Administration is doing historic deregulation work getting government out of business decisions. There is no evidence that small and mid-sized banks are losing business to TBTF banks. And any increase in the insurance limit will create dangerous moral hazard within the banking system. It would be a shame if the President supported the proposed market distorting increase in FDIC insurance limits.

Steve Moore is a senior economist and co-founder of the Committee to Unleash Prosperity. He previously served as a senior economic adviser to President Trump and is a longtime advocate for pro-growth, free-market policies. Moore is a former member of The Wall Street Journal editorial board and has authored several books on the U.S. economy and tax policy. He is a frequent commentator on national television and radio.

 The views and opinions expressed in this commentary are those of the author and do not reflect the official position of the Daily Caller News Foundation.

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