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FDIC Proposes Expanded Bancassurance for Businesses

WASHINGTON – The Federal Deposit Insurance Corporation recommended Monday that Congress consider expanding its regulatory authority to freeze certain deposits so it could prevent bank runs.

The proposal came the same day the FDIC orchestrated the seizure and sale of First Republic Bank to JP Morgan, and weeks after a run on the Silicon Valley bank contributed to its collapse.

Right now, the FDIC only insures bank deposits up to $250,000. That has left banks that have a large share of uninsured deposits — especially small and medium-sized banks — vulnerable to runs. The FDIC estimates that at the end of last year, banks held $7.7 trillion of uninsured deposits, about 43 percent of total deposits in the United States.

“The report highlights that while the overwhelming majority of deposit accounts remain below the deposit insurance limit, growth in uninsured deposits has increased the banking system’s exposure to bank runs,” FDIC Chairman Martin Gruenberg said in a statement accompanying the report. “Large concentrations of uninsured deposits increase the potential for bank runs and can threaten financial stability.”

Fears about the stability of the banking system have led to an exodus of deposits from smaller regional banks to larger banks in recent weeks, as nervous customers moved their money to banks seen as “too big to fail”.

Some members of Congress have been looking for ways to raise the deposit limit, at least temporarily, in an effort to stop depositors from pulling their money out of smaller institutions that have been at the center of the latest banking turmoil.

FDIC officials acknowledged Monday that these bank runs caught them by surprise. As part of a review of what happened, the regulator has been studying ways to improve the system. The report looked at the viability of raising the existing insurance cap; expand it so that deposit insurance is unlimited; and create a more targeted approach that will provide higher levels of deposit insurance to business accounts used for payroll processing.

The FDIC expressed concern that widespread expansion of deposit insurance could create “moral hazard” problems, that is, banks would be shielded from the consequences of making risky investments. It favored offering more protection to business payment accounts because the money is typically used to pay employees rather than investments.

“Increasing coverage of large deposit accounts with the greatest demand for liquidity will reduce or eliminate the need for depositors in such accounts to withdraw funds out of fear for the safety of their deposits and for the continuity of their operations,” the FDIC said in its report. “This will have benefits for financial stability.”

The regulator acknowledged that such a system could add new complexity, and that officials need to figure out how to distinguish between the different account types and prevent investors from finding ways to game the system to gain greater protection.

During the 2008 financial crisis and the 2020 pandemic recession, lawmakers authorized a temporary guarantee program for business accounts similar to what the FDIC proposed on Monday.

The FDIC did not recommend how high a new insurance threshold should be set, and officials said legislation from Congress would be needed to change the current system.

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