[wpietri]

Insuring balances is not 100% fine. Spitting money across banks decorrelates the risks. And presumably whomever is picking the actual banks involved is choosing them with some care. So the FDIC is surely fine with people opening multiple accounts.

But insuring 100% of the balances at a single bank creates moral hazard. It gives executives a bigger incentive to gamble knowing that their losses will be covered. They'll be less sensitive to long-tail risk. Their customers will be less worried about bank failure, and so more likely to place their money with banks that are taking more risk.

[notch898a]

The executives will have no choice but to take risks. Depositors, knowing their funds are covered no matter what, will chase banks with the highest yield. Eventually, the only way to compete higher is to take greater and greater risks. He who takes the most risks gets the biggest interest rate, he who does not loses his depositors to someone who does. In the end the conservative actors implode from losing their depositors and paying special assessments for 'insurance' risk of competitors, and aggressive actors pump up from those chasing high yields and then explode with their depositors getting bailed out.

[wpietri]

Very well put.

[aeternum]

It's questionable how much splitting money across banks decorrelates risk. SVB's mistake was buying slightly too many treasuries at slightly too long a duration. Pretty much every bank is in this same boat if interest rates continue going up.

All the banks own debt (treasuries, mortgages, bonds, etc) at pitifully low interest rates.

[wpietri]

It's not all that questionable. How many banks have failed out of the total number of banks?

[aeternum]

Suppose the FDIC decides they are keeping the 250k limit. The logical outcome is for companies to leverage fintech services that help spread corporate deposits among multiple banks.

The problem is now you have high correlation across that pool of banks. If depositors get scared and a bankrun occurs, they are now pulling money from the entire pool. The 2008 bank failures provided a small glimpse into that correlated risk.

How many banks today are capitalized sufficiently to handle a bankrun of the scale that occurred at SVB? SVB's balance sheet is not unique, all banks have significant unrealized losses due to bonds, mortgages, and any other kind of debt that they own. During the pandemic, the Fed reduced the reserve requirement to zero so banks need to keep 0% of customer money 'in the vault'.

[wpietri]

That sounds like a very specific hypothetical future risk. That's a logical outcome in a vacuum, but companies have managed large cash and near-cash positions for a long time without services like you describe. I think your "slippery slope" argument is a fantasy.

But if it weren't, and if it were a problem for the FDIC, which I don't think is established, then the FDIC can just change the definition of what's covered a bit. It's not a hard fix for them to say that they won't cover more than $x per beneficiary total.