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No Room for Weak Links in the Chain of Deposit Insurance Reform


  • Edward J. Kane


Unrecognized and deferred losses at insured deposit institutions currently impair the capacity of the nation's principal deposit insurers (the FDIC and FSLIC) both to discipline failing institutions and to discipline or take over insolvent ones. These agencies' accrued but unreported losses far exceed their explicit financial resources. Moreover, their backlog of unresolved problem cases far exceeds the workload that their existing staffs can handle. What holds the deposit-institution system together is financial-market participants' so-far-unshakable faith that politicians and bureaucrats cannot afford to let the FDIC and FSLIC renege on the obligations that they and their predecessors have permitted these agencies to assume. Underlying this belief is a conjectural economic assessment of the strength and constancy of incentives that direct elected politicians to bail out politically sensitive enterprises. This paper addresses three tasks: (1) to clarify the defects in the information, monitoring, regulatory-response, and incentive sub-systems of federal deposit insurance that, by subsidizing institutional risk-taking, led so many deposit institutions and their insurers into economic insolvency; (2) to identify a generic mix of reforms that could in principle put the system right again; and (3) to explain how far proposals for reform that hold a place on the active legislative and regulatory agenda fall short of this ideal.

Suggested Citation

  • Edward J. Kane, 1987. "No Room for Weak Links in the Chain of Deposit Insurance Reform," NBER Working Papers 2317, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:2317
    Note: ME

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    References listed on IDEAS

    1. Bruno, Michael, 1976. "The Two-Sector Open Economy and the Real Exchange Rate," American Economic Review, American Economic Association, vol. 66(4), pages 566-577, September.
    2. Dornbusch, Rudiger, 1983. "Real Interest Rates, Home Goods, and Optimal External Borrowing," Journal of Political Economy, University of Chicago Press, vol. 91(1), pages 141-153, February.
    3. Razin, Assaf & Svensson, Lars E. O., 1983. "Trade taxes and the current account," Economics Letters, Elsevier, vol. 13(1), pages 55-57.
    4. Edwards, Sebastian & van Wijnbergen, Sweder, 1986. "The Welfare Effects of Trade and Capital Market Liberalization," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 27(1), pages 141-148, February.
    5. Harberger, Arnold C, 1971. "Three Basic Postulates for Applied Welfare Economics: An Interpretive Essay," Journal of Economic Literature, American Economic Association, vol. 9(3), pages 785-797, September.
    6. Joshua Aizenman, 1985. "Wage Flexibility and Openness," The Quarterly Journal of Economics, Oxford University Press, vol. 100(2), pages 539-550.
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    Cited by:

    1. William P. Osterberg & James B. Thomson, 1990. "The effect of subordinated debt and surety bonds on banks' cost of capital and on the value of federal deposit insurance," Working Paper 9012, Federal Reserve Bank of Cleveland.
    2. Soon-Ja Lee & Michael L. Smith, "undated". "Property-Casualty Insurance Guaranty Funds and Insurer Vulnerability to Misfortune," Research in Financial Economics 9506, Ohio State University.
    3. Jeffery Gunther & Linda Hooks & Kenneth Robinson, 2000. "Adverse Selection and Competing Deposit Insurance Systems in Pre-Depression Texas," Journal of Financial Services Research, Springer;Western Finance Association, vol. 17(3), pages 237-258, September.
    4. Robert Eisenbeis, 2000. "History of the Journal of Financial Services Research," Journal of Financial Services Research, Springer;Western Finance Association, vol. 18(2), pages 103-107, December.
    5. Armen Hovakimian & Edward J. Kane, 1996. "Risk-Shifting by Federally Insured Commercial Banks," NBER Working Papers 5711, National Bureau of Economic Research, Inc.
    6. repec:bla:jfnres:v:40:y:2017:i:1:p:55-80 is not listed on IDEAS
    7. Lucian A. Bebchuk & Zvika Neeman, 2010. "Investor Protection and Interest Group Politics," Review of Financial Studies, Society for Financial Studies, vol. 23(3), pages 1089-1119, March.
    8. Soon-Jae Lee & Michael L. Smith, "undated". "Property-Casualty Insurance Guaranty Funds And Insurer Vulnerability To Misfortune," Research in Financial Economics 9616, Ohio State University.
    9. Lee, Soon-Jae & Smith, Michael L., 1999. "Property-casualty insurance guaranty funds and insurer vulnerability to misfortune," Journal of Banking & Finance, Elsevier, vol. 23(9), pages 1437-1456, September.
    10. Schellhorn, Carolin D. & Spellman, Lewis J., 2000. "Bank forbearance: A market-based explanation," The Quarterly Review of Economics and Finance, Elsevier, vol. 40(4), pages 451-466.
    11. Lim, Terence & Lo, Andrew W. & Merton, Robert C. & Scholes, Myron S., 2006. "The Derivatives Sourcebook," Foundations and Trends(R) in Finance, now publishers, vol. 1(5–6), pages 365-572, April.
    12. GEORGE E. French, 1992. "Early Corrective Action For Troubled Banks," Contemporary Economic Policy, Western Economic Association International, vol. 10(4), pages 103-113, October.

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