How the FDIC can curb banks’ reckless speculation
Barry Ritholtz
Washington Post, June 1 2012




Let’s be blunt: Banking has devolved into an unruly mess.

After years of deregulation, it has become all but impossible to re-regulate modern banking. There was a brief window during the credit crisis, but that has passed. Today, profits trump soundness. Safety and security are secondary to risk-taking and speculation.

I have been wondering what we, as a democratic nation, are going to do about this. Are we going to rule banks, or are bankers going to rule us?

My curiosity got the best of me. To find the answer, I slipped off in my time machine to the near future. While I was there, I learned that (yeah!) we had ended Too Big to Fail, eliminated taxpayer liability for reckless speculation, and freed hedge funds and investment banks from onerous regulations. In short, in the future, they seem to have figured out how to make the entire financial system safer and more stable. All this, based on a simple rule change from the FDIC.

I managed to sneak back home a copy of the letter behind that fascinating development. That letter from the office of the Federal Deposit Insurance Corp.’s chairman, circa 2015, follows:



June 3, 2015

Dear Banker,

Thank you for your cooperation in our most recent series of bank stress tests. We had hoped that these would not be necessary, but after the credit crises of 2007-08 and the banking crises of 2014, the FDIC simply had no choice.

The results of these stress tests, especially as applied to our largest banks, are terribly troubling. Trading losses of billions of dollars have made it apparent that nearly every major depository bank is in a far more precarious financial condition than previously believed. It is as if many of our largest banks never fully recovered from the earlier crisis and now lack sufficient capital to withstand any further pressure.

This is especially concerning if the economy takes yet another turn for the worse or housing begins its third leg down.

Capital reserves are insufficient to support the trillions of insured deposits at these banks. Ever since interest rates hit record lows and the 10-year Treasury bond broke 1.5 percent, leveraged speculation has become the primary business of the largest FDIC-insured banks. We have grave concerns about the safety and soundness of these insured depositories. The ongoing collapse in Europe, the wild currency swings around the world, and that recent turmoil in China have all made the current state of finance extremely risky.

Following the most recent bank failures, the reserve position of the FDIC Deposit Insurance Fund (DIF) has fallen to perilously low levels. This pool of capital is the backstop for public money deposited in demand accounts at large and small banks around the nation. Given these exigent circumstances, the FDIC cannot sit idly by while speculation in derivatives and other complex financial instruments exhausts the DIF, thus putting taxpayers’ money at great risk. Nor can we assume unlimited liability in guaranteeing deposits at firms where trading in derivatives is creating additional liabilities to the FDIC (and taxpayers) that is measured in the trillions of dollars.

Therefore, as chairman of the FDIC, with the full support of my board of directors, we have decided upon the changes in the regulations covering federal deposit insurance:

1. Effectively immediately, we have increased the FDIC deposit insurance for any U.S. bank that engages in ANY trading of derivatives or underwriting securities or other investment banking activities by threefold. This threefold fee increase goes into effect immediately. It applies whether these trades are hedges for proprietary trades or are made on behalf of clients.

2. Effective in 90 days, we are LOWERING the maximum insured deposit liability to $100,000 per account for derivative trading firms. Effective in 180 days, the insured maximum insured deposit liability will drop to $50,000 per account.

3. Effective one year from today, on May 23, 2016, we will no longer offer deposit insurance for any firm that engages in derivative trading or securities underwriting or that engages in investment banking.

4. Any bank with fewer than 1,000 depositors or less than $1 billion in assets may apply for a discretionary waiver of these rules.

We have been forced to make these changes because of the very real risks that your leveraged derivative trading has created. One or more of you may suffer an enormous loss, and that poses a risk to the DIF. Our governing statute requires the FDIC to act in such circumstances.

It is not our position to tell you what sort of non-depository banking activities you may engage in. Those are business choices you and your firm are free to make. However, it is our position not to engage in foolish insurance underwriting. We have elected to be more conservative in our risk management as well as the underwriting assumptions we make. Therefore, we cannot guarantee the kinds of risks that your firms have been undertaking.

This action should delight many of you. In the recent speeches of several bank CEOs, many of you have longed for a return to the days of less regulation and a truer free market. Once you no longer qualify for our insurance due to your other businesses, you will be freed up from all of the onerous bank reviews and regulations that are part and parcel of FDIC insurance.

As a bonus, without the intervention of government guarantees, those of you who continue to have depositors will finally be able to compete in a free and open market. Without FDIC insurance, your depositors will be making their decisions based on your reputation and their assessment of the safety and security of your operations — and not Uncle Sam’s willingness to continually bail you out.

You have the FDIC’s best wishes for success in the future — just not our insurance.

If you have any further questions, feel free to contact my office.

Thomas Hoenig

Chairman, Federal Deposit Insurance Corporation




Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, the Big Picture. You can follow him on Twitter: @Ritholtz

Category: Bailouts, Regulation

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

9 Responses to “How the FDIC can curb banks’ reckless speculation”

  1. willid3 says:

    only 3 times the premium rates? why not make it even higher? and why not make based on results too. i,e, if a banks has a loss, their rates will go up (since the risk is higher) and also lower insured losses. and not sure i would give any waivers at all. banks that go without FDIC insurance will be subject to bank runs all the time. not going to lower their costs. also need to limit or pull their ability to use the FED discount window. might should make their ability to go their subject to being FDIC insured.

  2. eliz says:

    Truly a lovely fantasy – but have you forgotten the banksters own our politicians and the financial/economic regulatory agencies?

  3. EdDunkle says:

    That’s a beautiful dream, but I don’t think President Blankfein will sign off on it.

  4. drewburn says:

    Hopefully, someone in Washington, who isn’t too bought off by you-know-what lobby, will get a clue. Simple idea, simple enough to appeal to the Tea Party: Fancy shit equals no guarantee. Like Glass Stegall only simpler!

  5. illyia says:

    Too kewl 4 school, I must say. Certainly more workable than my “make OTC OBS derivatives retroactively illegal” shout out. (I know… I know… )

    Must. Steal. This. Post.
    With full attribution, natch.

  6. hoaganp says:

    It is time for the revolution to start! We need to move before the banks take the entire country and the world financial system down the tubes with their ‘we sin, you pay’ game they are still playing.

    First, we need a leader. An insider who understands the Wallstreet system, as well as the banks. A Robin Hood, who fights for the commoner. An inspirational leader who can rally the masses to occupy, not just Wallstreet, but all of Manhattan, to let the thieves know we really are sick and tired of it and we really aren’t going to take it any longer.

    Who could we get to lead us in the cause to bring justice and accountability to the banking system. We took nominations and the only person nominated was……, General Barry Ritholtz!

    Where do we enlist?

    Oh, and General, how about we also clean up Congress while we have the masses together.

  7. farmera1 says:

    OK, I’m probably showing my ignorance here, but I think the investment banks weren’t part of the FDIC system until 2008 (or so). It was part of the emergency things that were done to get the system under-control.

    Can anyone clarify this for me. Since as I remember history, the investment banks weren’t part of the FDIC
    when the big mess happened in the 2007/2008. So I don’t see the logic of how taking the FDIC away will prevent another crisis. With my recollection of history as a casual observer, lacking FDIC didn’t prevent the first crisis, how can it prevent the next one.

    What am I missing, anyone, Bueller?????

  8. SanDiegoSam says:

    From this Blog to God’s ears.

  9. [...] the same time, Barry Ritholtz imagines an interesting, pragmatic future solution to the current banking crisis: De-regulate, but limit FDIC insurance to banks that don’t [...]