“Analysis of Federal Deposit Insurance Corporation

(FDIC) And the Bank Failure Rate”

Heather Squires

FDIC 1933- Present

Established in the Banking Act of 1933 as a result of bank panics during the Great Depression

Today: “FDIC supervises banks, insures deposits up to $100,000 and helps maintain a stable and sound banking system” (FDIC Website)

Why?

Bank Failures during the 1980’s were caused by the FDIC, or were they?Incentives towards risk~ Moral

HazardWho pays?FDICIA in 1991

Previous Research

Barth and Brumbaugh (early 1990’s)Claimed the FDIC caused the

increase in bank failure as a result of insurance rising from $40,000 to $100,000

FDIC led to a “heads I win, tails the federal insurer loses”

Concluded bank failures were a result of the federal deposit insurance

More Research

Cebula and Belton (1997)Follow-Up study on the effects of

the FDICIA Again found FDIC was a major

component of bank failuresDetermined FDICIA had directly

decreased the bank failure rate

Still More Research

Saltz (He had to be different)Didn’t agree with the previous

researchers and did it his wayCointegration technique,

eigenvalues, trace effects~ TOO MUCH CALCULUS!

What did he find after all of that work?

The SAME thing~ FDIC caused bank failures during the 1980’s

My Model

A simple linear regression

0 1 2 2 2 3 2 4 2 5 13t t t t t tBFR x x FDIC x COST x CAR x Year x GDP u

0

2

2

the constant term the percentage of federally insured banks in year that were closed or merged

the extent of federal insurance coverage in year 2 = the

t

t

t

xBFR tFDIC tCOST

2

2

real average cost of deposits at commercial banks in year 2 = the equity capital-to-total asset ratio in year 2

3 = the real average interest rate for a three-year Treasury bit

t

tCAR tYear

1

ll in year 2 = the percentage growth of real GDP for year 1

= the error termt

tGDP tu

Results

1981-19912 2 2

2 1

2

10.223 0.188 0.0403 2.047

(6.52) (0.822) (0.195) (2.045)

0.0742(3 ) .0038 .3230

(1.101) (.0677)

R 0.85

t t t t

t t

BFR FDIC COST CAR

Year GDP

More…

1981-2005

2 2 2

2 1

4.375 0.050 0.2736 0.457 (1.306) (0.1743) (0.092) (0.134)

0.3141(3 ) .0329 .3092

(0.0709) (.0403)

t t t t

t t

BFR FDIC COST CAR

Year GDP

2R 0.74

Finally…

1992-2005

2 2 2

2 1

1.999 0.1351 0.1604 0.2038 (0.967) (0.1102) (0.0436) (0.108)

0.1284(3 ) .0274 .0672

(0.0512) (.01

t t t t

t t

BFR FDIC COST CAR

Year GDP

2

511)

R 0.97

Did the FDICIA work?

Bank failure rates have decreased Bank Failure Rate

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

1934 1939 1944 1949 1954 1959 1964 1969 1974 1979 1984 1989 1994 1999 2004

Conclusions

Since 1991 the bank failure rate has decreased significantlyEconomic BoomLow Interest RatesHigher Capital to Asset Ratios

What’s Next?

Federal Deposit Insurance Improvement Act of 2005Removed all restrictions on

imposing risk-based premiumsNow insures up to $250,000 for

retirement accounts

Questions?