FDIC Reform Urgently Needed

Last year, the Federal Deposit Insurance Corporation seized 25 banks, the most since 1993, at a cost of roughly $7 billion from its Deposit Insurance Fund, which now holds about $36.4 billion in reserve. That represents a reserve ratio of roughly 1 percent, clearly not enough to cover a large-scale failure.

The FDIC should be raising the rates it charges to the banks whose deposits it insures. Doing so would address more adequately the risk the nation's taxpayers are obligated to cover and would rebuild dwindling Deposit Insurance Fund reserves. A higher charge closer to covering the real risks also would lead to the emergence of competing private insurers of deposits and a sounder banking system, without risking taxpayer dollars.

While the FDIC recently has taken steps in the right direction by raising the premium rates it charges its member banks, real changes are needed to hold banks accountable for their decisions and protect taxpayers. The public may perceive the FDIC's deposit insurance system as ironclad and foolproof, but the FDIC is in fact a deeply flawed system that indirectly promotes risky behavior and is dangerously vulnerable to a large-scale collapse of the banking system.

Studies, including those done by the FDIC itself, have shown free-market banking systems to be significantly less prone to failures than regulated banking systems. For many years free-market economists have argued the FDIC banking system creates an intolerable risk for taxpayers: A federal government guarantee for deposits, low reserve requirements on deposits, and the small Deposit Insurance Fund have created a moral and financial hazard for our nation's banks. If the recent credit and banking crisis have shown anything, it is that the moral hazard of government guarantees can provoke financial disasters that jeopardize the entire economy.

The recent troubles of a growing number of FDIC-insured member banks suggest a reexamination of federal banking policy is needed. New alternatives, including a move toward privatization, should be considered as part of a plan to reform the banking system. False confidence in the FDIC should not override the common sense and financial planning of consumers.