Tuesday, September 22, 2009

FDIC taxing health banks?

Being a currency issuer is hard work. Among your many responsibilities is backing up consumer deposits in banks. If you don't do this, you risk a bank run, which is bad (cue "it's a wonderful life reference"). The US does this through an agency called the FDIC, which basically puts Uncle Sam's printing press behind deposits of $250,000 or less. A few months ago it was just up to $100,000 or less, but there was a crises and people needed more, so they raised it. When there is a bigger crises, they will raise it some more. Raising it before it needs to be raised just seems wasteful, I guess, so let's embrace the "just-in-time" FDIC we are blessed with.

If the FDIC runs dry, it can simply be topped up by the Treasury. After all, it's just replacing hard earned money that people have put in their bank accounts and making them whole -- clearly no risk of inflation there. And both the FDIC and Treasury are playing on the same team.

Instead, the FDIC is "borrowing" from healthy banks to fund losses at unhealthy banks. Here, the FDIC issues Govt money to a healthy bank, and then gives the healthy bank money to an sick bank. Why not just issue Govt money to the sick bank? Well, then there would be no opportunity to pay interest income to the healthy bank.

The FDIC is a branch of the US Govt, and therefore a currency issuer. It should acknowledge and live up to its responsibilities, and use the power that fiat currency has given it. If the Govt finds that one of its accounts has run dry, it should just top it up by issuing some currency.


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