Tuesday, September 30, 2008

Should the FDIC insurance limit be raised?

I have written before that I believe that the FDIC insurance limit should be raised to $1 million so that small businesses and people with a lifetime of savings or the proceeds from a home sale do not have to worry about bank safety and getting themselves involved in these bank "runs" that we are actually encountering now. Obama suggested a rise to $250,000, but to me that is too half-hearted a bandaid. I suspect that the motivation for the magic $250,000 number is the same as his upper limit for who should get tax relief, an artificial boundary to separate the middle class from the supposedly "rich." McCain is proposing the same change, but seems like a little bit of monkey-see/monkey-do. It makes no sense that McCain would abandon small businesses and responsible savers, but maybe that is simply a populist election ploy.

Actually, my most recent thoughts are to raise the FDIC limit to even $10 million so that essentially all small businesses will be covered. Even for a relatively small business with 100 employees, there may be periods during the year where income and expenses are not coincident and there could be several million dollars sitting in the bank for a short period of time, especially for businesses with seasonal peaks, as well as cash that accumulates for quarterly payments and in advance of major capital expenditures.

The other key change needed for the FDIC is to explicitly state that it is simply a "reserve" fund and that the U.S. Treasury will ultimately backstop all valid claims even if they exceed the reserve fund. The point of the reserve fund is that institutions are contributing so that it will generally cover most losses and so that they are reminded of the need to behave responsibly. This change will eliminate the need to infuse a large pile of capital. Maybe the insurance fee should be raised as well, but I am not convinced since a higher limit may attract money back to banks from money market mutual funds and cause an increase in the total amount of insurance paid.

-- Jack Krupansky


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