Wednesday, September 30, 2009

FDIC Bailout

Why not make it communist?

The FDIC is requiring the banks whose deposits it guarantees to replenish the deposit insurance fund to the tune of $45 billion (bank profits are estimated to be about only $5 billion for the year).

Let's deconstruct this. First off, the banks like the FDIC because it means they get cheaper funds than the market would allow if they didn't have the government guarantee. Secondly, the FDIC guarantee is a package deal with cheap access to discounted funds and bailouts from the Federal Reserve bank. Who pays? The people pay for this system because the bailouts mean that the value of the dollar goes down, while the banking sector gets government-sponsored monopoly above-normal profits (and thusly nice fat salaries for creating more debt).

No the answer is not to put salary caps on market activity. The answer is to remove barriers to market activity. The reason the banks have to pay so much to replenish the FDIC deposit guarantee fund is because many of their fellow banks went bancrupt or were forced into bancruptcy (who makes these enforced-bancruptcy decisions and what their motivations are, eg the public choice aspects, are left alone here for now).

So then the answer should be obvious. The banks should self-insure each other's deposits. This way they have the incentive to monitor each other's performances and risk management. The FDIC doesnt really have this incentive because their own money is not at risk. At the same time this would remove the counter-incentives to prudent money management, and thusly reduce unsustainable asset bubbles and the harm that these do to people, by getting the government (central bank) out of the bailout business.