How Safe Is My FDIC-Insured Bank Account? Here is your answer.

by Chris Martenson

Your bank account may not be as safe as you think (or hope). Taking a deeper look at the legal details and the financial depth of the FDIC reveals several troubling details that call into question how the FDIC would fare during a true banking crisis.

The US is coming out of a period of unusually low banking stress and failures. Since it is typical human behavior to let one's guard down during tranquil periods, we might legitimately ask if this has happened with respect to the FDIC.

Before we address that, we need to understand bit more about the FDIC.

What is the FDIC?

Let's begin with a snippet from Wikipedia on the FDIC: 

The Federal Deposit Insurance Corporation (FDIC) is a United States government corporation created by the Glass-Steagall Act of 1933. The vast number of bank failures in the Great Depression spurred the United States Congress into creating an institution which would guarantee deposits held by commercial banks, inspired by the Commonwealth of Massachusetts and its Depositors Insurance Fund (DIF). The FDIC provides deposit insurance which currently guarantees checking and savings deposits in member banks up to $100,000 per depositor.

Accounts at different banks are insured separately. One person could keep $100,000 in accounts at two separate banks and be insured for a total of $200,000. Also, accounts in different ownerships (such as beneficial ownership, trusts, and joint accounts) can be considered separately for the $100,000 insurance limit. The Federal Deposit Insurance Reform Act raised the amount of insurance for an Individual Retirement Account to $250,000.

The two most common methods employed by FDIC in cases of insolvency or illiquidity are the:

• Payoff Method, in which insured deposits are paid by the FDIC, which attempts to recover its payments by liquidating the receivership estate of the failed bank.

• Purchase and Assumption Method, in which all deposits (liabilities) are assumed by an open bank, which also purchases some or all of the failed bank's loans (assets).

In short, if your bank gets in trouble, the FDIC will ride in and either pay off your account (up to $100k), or sell your bank off to another bank which will then assume the usual duties of your bank. Under normal circumstances, a bank failure should not impact you in the least. But these are not normal times. We might reasonably ask how the FDIC would respond during a major banking crisis. After all, this is our money we're talking about. Faith and hope are great at weddings and sporting events, but they should not form the basis of our strategy for handling our finances.

How many bank failures could the FDIC handle at once?

When we take a look at the financials of the FDIC (Figure 1) we see that the level of insurance (in circles below) is not terribly high either, when viewed as an aggregate amount (in blue) or on a percentage basis (in red). 

Figure 1.

 

The 1.22% Reserve Ratio means that for every dollar in your bank account, the FDIC has 1.22 cents "in reserve" ready to cover your potential losses. This has proved to be an ample amount during the period of stability we've recently had, but it doesn't seem particularly significant, considering the recent headlines about banking losses (Spring of 2008). 

Consider, for a moment, the collapse of Bear Stearns. In order to assume that bank, JP Morgan asked for, and received, a special waiver from the Federal Reserve to keep $400 billion of suspect of Bear Stearn's assets off the books of JPM (page 4 of the linked document). While JPM may have been padding the books a little bit here, due to the uncertainty of how bad the wreckage might turn out to be, $400 billion dwarfs the $52 billion reserves of the FDIC. 

If one medium-large bank collapse could wipe out the FDIC by a factor of nearly 8, what do you suppose would happen if there were multiple, simultaneous bank failures?

 

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