Should the FDIC Up the Ante on Deposit Insurance?

In a game of deposit insurance musical chairs, the taxpayers are the ones left standing when the music stops. But the credit crisis has not only stopped the music, it has forced us to break the chairs and use them for firewood.

The financial problems plaguing banks have led the industry to blow the dust of the topic of deposit insurance, long kept in the sector’s closet behind the vacuum cleaner and subprime mortgage loan files.

There have been 11 U.S. banks failures this year and another 117 institutions are on the Federal Deposit Insurance Corp.’s “problem” list. The FDIC has paid out $2.54 billion this fiscal year to customers of failed banks, according to a July report released by the White House. Nearly 9 million accounts have a balance that exceeds $100,000, accounting for $3.6 trillion, according to the FDIC.

The report estimated that the FDIC would have to pay out $9.2 billion during the 2009 fiscal year and $150 million in 2010. Keep in mind that Fannie Mae, Freddie Mac, AIG, and Lehman Brothers were all still around when that report was released. It doesn’t take a huge leap of faith to assume that those figures will ultimately be significantly higher.

An op-ed piece by economist Lawrence R. Lindsey in the Wall Street Journal suggests that the Federal Deposit Insurance Corp. should raise the level of deposit insurance above its current threshold of $100,000 per bank account because 40% of the “assets in the banking system are not protected by FDIC insurance.” Doing so would prevent future bank runs or insolvencies, Lindsey wrote.

Lindsey’s recommendation becomes all-the-more important after Kansas Bankers Surety Cos., confirmed yesterday that it will stop insuring deposits over the FDIC’s $100,000 limit. The actions of KBS, which is part of Warren Buffett’s larger company Berkshire Hathaway Inc., reflects concerns about the short-term prognosis for the banking industry.

The FDIC currently manages $53 billion in its Deposit Insurance Fund, according to the regulator’s Quarterly Banking Profile.

The Federal government has taken significant steps to shore up the financial markets. Should it examine raising the level of deposit insurance as a means of restoring confidence to individual consumers?