... a risky business?
Would like to strongly emphasize something which most of you have probably skated over too lightly.
For the first 3 or so decades of its existence, SECU was an uninsured investment club limited to North Carolina state and public school employees. The "club" was limited to "investing" only in consumer loans and only to other members - nothing else.
But here's the really important point. For the SECU member "investor", for the member "shareholder", nothing was guaranteed. SECU by statute was operated on a not-for-profit basis; if operations went well the shareholders received a "dividend" on their savings. If things went "badly" shareholders would see their savings balance reduced, creating a loss. During this period - and over its entire history - SECU never had a "bad" year, never operated at a loss. Costs were kept low, members volunteered their time to run the credit union and approve loans. Loan losses were rare.
In the 1930's banks were privately-owned and uninsured. During the Great Depression over 4,000 U.S. banks failed, causing tremendous losses for depositors. As a result, Congress created the Federal Deposit Insurance Corporation (FDIC) to insure depositors up to $2,500 (today it's $250k!) and to restore confidence in the banking system.
Some credit union leaders felt that deposit insurance for credit unions would be beneficial, many leaders did not. They feared federal government intrusion and overreach. In 1970, Congress created the National Credit Union Administration (NCUA) to provide deposit insurance for credit unions equivalent to the FDIC.
SECU did not sign on for NCUA insurance until 1984. As a member with deposit insurance, losing your life savings has been virtually eliminated, but have your "risks" as an SECU member-shareholder decreased?
Did you know that 3 of the largest 50 banks in the U.S. - Silicon Valley Bank, First Republic, Signature - failed in 2023?
Yep, just last year,... weren't you paying attention?
Short of the US government failing, the risk of losing your savings (up to specified limits) was eliminated. No other risks were reduced or eliminated. What is your point?
ReplyDeleteOne could argue that a risk was introduced. All "risks" are not monetary in nature. I think the point that is being made is that the credit union would now be bound by an external entity rather than the member's shares. You don't gain something without giving up something.
DeleteYet nobody has identified a risk that was not already present.
DeleteYou can certainly get something without giving something up. We do not live in a zero sum world. What risk was introduced? Government overreach wasn’t introduced, it was already present (SECU already had a regulator).
DeleteAccording to Google AI:
DeleteYes, federal deposit insurance can introduce new risks to financial institutions, including:
Moral hazard
Deposit insurance can create an economic problem called moral hazard, where bank managers and depositors have distorted incentives. This can lead to excessive risk-taking by banks.
Discourages monitoring
Deposit insurance can discourage people from closely monitoring banks, which can make bank failures more likely.
Large inflows of deposits
Full deposit insurance can lead to large inflows of deposits to banks. This can lead to higher assessments on banks.
Disruptions to asset markets
Full deposit insurance can lead to significant disruptions for asset markets that deposits substitute for.
However, deposit insurance can also increase bank stability by reducing depositor runs. Other tools, such as supervision, regulation, and pricing, can be used with insurance to reduce disruptions to asset markets and moral hazard.
Now knowing from the subsequent post that SECU was paying for private deposit insurance prior to moving to federal deposit insurance, which of these risks were introduced by the switch?
DeleteWhy did it take SECU 14 years to provide their depositors federally backed insurance on their life savings? That seems to fly in the face of the Board’s and CEO’s fiduciary responsibility to the membership.
ReplyDeleteI think that’s a great question for the CEO at the time (guess who that was ;))
Deleteyep bailing out more bad actors, what's new!
ReplyDeleteIt's called Moral Hazard. If you (as a financial institution) know there is no downside because the government, (i.e. tax payers) will "save" you then you may take reckless risks to reach for profit/yield. Are your savings insured? Yep, to $250,000 but the survival of the whole organization becomes a concern. Failures and losses (monetary, employee, reputational) are a real thing. Ever heard of "too big to fail"?
ReplyDeleteWhen SECU was uninsured decisions were made without outside influence and losses were nearly nonexistent. Point is that it worked for the right reasons.
This is how the FDIC works. Deposit accounts like checking, savings, CD's are insured up to $250,000 per category. Member banks pay premiums based on the risk that the bank poses which contributes to a fund that the FDIC pulls from for operating cost and, if necessary, to cover deposit account loses for consumers. It is not publicly funded but it can borrow from the Fed if needed. When a bank becomes insolvent, i.e. fails, the FDIC takes over the institution and begins to protect depositors so that the funds in their account are not lost up to the insured amount. It can liquidate the assets of the bank to pay the depositors outright, merge the bank with another institution, and even form a new institution. Most of the time, the failed bank is sold at auction to another bank that can assume the deposit base or the failed bank is liquidated to pay the full amount of the insured deposits to depositors.
ReplyDeleteThe FDIC is not publicly funded with tax payer dollars. To combat abuse of the FDIC as a "fail safe" banks need to adhere to capital liquidity, risk, debt and leverage requirements. The more sound (i.e. "cash on hand" generally) the bank, the lower the premiums they pay into the fund. Banks that take more risks pay higher premiums.
All insured and even uninsured deposits for Signature Bank, Silicon Valley Bank, and First Republic were protected.
Interesting that you focused on FDIC instead of NCUA. Anyway, while both the FDIC and NCUA are funded via their respective memberships, both insurance funds are also fully backed by the full faith and credit of the US government. The US government is backed by US taxpayers, so it is a bit misleading to say that the insurance funds are not publicly funded. Their day to day operations are not publicly funded, but you can rest assure that US taxpayers would be on the hook if the insurance funds and the member premiums don’t cover losses. Hasn’t happened yet, but that is precisely what being backed by the full faith and credit of the US government means.
ReplyDeleteActually no. If the insurance fund does not cover the loses, the FDIC and NCUA have the power to demand advance premiums or borrow from the Fed. In 2007/2008, that’s precisely what happened. The loses incurred to cover the insured deposits depleted the fund so the FDIC asked for three years of advanced premiums from the remaining solvent members. They also raised premiums in the subsequent years to replenish the fund. Had they decided to borrow from the fed, future premiums would have gone to pay back the loan. Tax payer money has not ever been spent to cover insured deposits. In this instance , being backed by the full faith and credit of the US government doesn’t mean that tax payers are on the hook and are out millions but it does mean that the government is willing to lend that tax payer money in a crisis so long as it’s repaid.
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