The End of Market Discipline for Banks

Janet Yellen essentially says all deposits are insured. From now on, moral hazard rules.

This isn’t an explicit guarantee, but it’s close enough for government work.

Dodd-Frank lets the Federal Deposit Insurance Corp. guarantee uninsured deposits under its “systemic risk” exception.” 

But banks must fail for the exception to apply and the systemic risk is supposed to be genuine. Regulators stretched that exception with SVB and Signature, and the Treasury Secretary is now making clear that they will stretch it again to prevent more bank runs on her watch. 

Most mom-and-pop businesses don’t have more than $250,000 sitting in the bank. The small businesses she’s referring to are hedge funds, venture and law firms and well-funded startups. Many VCs didn’t do due diligence before parking money at SVB, but it’s not unreasonable to expect that they should.

Letting uninsured depositors at SVB and Signature take a modest haircut would have provided useful market discipline. 

The Editorial Board WSJ 21 March 2023

Bill Ackman said he expects an acceleration of deposit outflows from banks after US Treasury Secretary Janet Yellen “walked back” comments about guaranteeing all deposits and the Federal Reserve raised its benchmark rate.

“We have gone from implicit support for depositors to @SecYellen explicit statement today that no guarantee is being considered with rates now being raised to 5%,” Ackman said in a long Twitter post. The 5% rate threshold makes bank deposits “much less attractive,” he wrote.

“I would be surprised if deposit outflows don’t accelerate immediately,” Ackman added.

Bloomberg 22 March 2023

Ackman Warns of Accelerated Deposit Outflows After Fed Interest Rate Decision - Bloomberg

Too big to fail is in the process of being extended to a whole new set of banks

Throwing a lifeline to the financial system in times of crisis can have unintended consequences. 

James Mackintosh WSJ 16 March 2023



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