When Banks Fail, Why Do We Keep Bailing Out Uninsured Depositors?
Michael Ohlrogge Ohlrogge, an associate professor at New York University Law School, argues that when banks fail, the F.D.I.C. is not resolving them in the manner that is least costly to its Deposit Insurance Fund.
If he’s right, then the F.D.I.C. is going against the explicit instructions of Congress, so this is kind of a big deal.
My impression is that F.D.I.C. staff members believe they are complying with Congress’s instructions, so this is a case of two sides looking at the same facts and drawing very different conclusions.
The issue Ohlrogge raises is how the F.D.I.C. handles uninsured deposits.
But in a vast majority of bank failures, the F.D.I.C. approves a resolution in which the uninsured depositors don’t lose a penny. They are treated exactly as well as insured depositors.
This is typically done by finding another bank that is willing to buy the entire failed bank, which entails purchasing all of its assets (such as loans) and assuming all of its liabilities, including both insured and uninsured deposits.
The Deposit Insurance Fund usually has to pay out when it arranges for a bank to be taken over because the bidder demands to be compensated for taking responsibility for an institution whose liabilities exceed its assets.
Notice that uninsured depositors did take more of a hit in the period from 1992 to 2007. That’s because in 1991, Congress passed the F.D.I.C. Improvement Act, which imposed the “least cost” standard on the agency. In following Congress’s instructions, the F.D.I.C. cut back on deals that rescued uninsured depositors.
But then came the financial crisis.
Peter Coy New York Times 1 May 2024
https://www.nytimes.com/2024/05/01/opinion/fdic-insurance-banks.html
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