How to Spark a Nationwide Main Street Industrial Renewal with Universal Deposit Insurance
During my hipster days back in the ‘90s, well before becoming a banking lawyer and longer before finishing my doctoral work, I lived in Kansas City. During this time I became interested in banking on two grounds. First, I had launched what I called an experimental ‘shoebox bank’ for a number of enterprising but ‘unbanked’ homeless friends I was ‘camping’ with under a bridge while still having my own apartment. (More on that in this book manuscript.) And second, I noticed a strange thing happening to our local banks…
Until late in the decade, the banks that I passed on the sidewalks had cute little names and cute signs out front, always festooned with locally resonant names and imagery. One such bank, prominent throughout Missouri, was the Mark Twain Bank. Having grown up in New Orleans before moving up north to Kansas City, I of course gravitated to this one. Another such bank, at least as prominent in Kansas City as Mark Twain, was Boatmen’s Bank, which boasted a logo featuring a classic riverboat complete with smokestacks and paddle wheels. How could I not want to bank with both?
But a funny thing happened on the way to the bank one day. As I strolled toward the bridge where my friends lived that morning, I saw a small work crew atop a tall ladder. They were taking down the cute little red sign with the riverboat smokestacks and paddle wheel, and replacing it with a generic red, white and blue sign reading ‘NationsBank.’ Two years later, the generic look stayed the same but the name changed: ‘Bank of America
I didn’t understand at the time what accounted for this, nor did I realize just how intimately linked it was to the dissertation I was then contemplating, on how the ‘globalization’ (still a new word then) of finance and production that was then all the rage was affecting both the world’s and our nation’s division of labor. But it was. Indeed it was among the most fateful things then happening, part of a process that I’d end up spending my entire academic life working to reverse without simply returning to the ‘80s.
Here’s what was so fateful about that development…
Until the late 1990s, ours was a culture – both legally and economically – of local, regional, sector-specific and production-focused commercial and industrial banks. The Founders of our republic were in many cases farmers, and like agriculturalists from time immemorial they were in consequence often in hoc to big metropolitan banks. Once independence was gained, they were determined that no one city or region of the US would emerge as a counterpart to the London or Amsterdam on which they had been regularly dependent.
Indeed, (what later proved to be unwarranted) paranoia on the part of Thomas Jefferson, James Madison, and sundry followers that our first Treasury Secretary, Alexander Hamilton, planned to make New York the next London brought the first bifurcation of politics in our nation’s history. The Jeffersonian Antifederalists and Hamiltonian Federalists echo among our Republicans and Democrats to this day.
One critical upshot of America’s dispersed-banking tradition was that, even while Philadelphia, Boston, and ultimately New York became large banking centers, they were never permitted to dominate other regions as the nation’s population grew and spread westward. All metropoles in the nation – Charlotte, Atlanta, Chicago, St. Louis, New Orleans, Dallas, Houston, San Francisco … – and their hinterlands had adequately large banking institutions. So did their surrounding towns and rural environs.
These banks were of course regionally focused and sector specific – they specialized in lending to, managing deposits for, and otherwise assisting local residents and local businesses with local and sector-specific financial needs. And the country prospered for it. The 19th and most of the 20th centuries were ‘growth miracles’ for American startups, American production, and the ever-growing and ever-more-prosperous American middle class.
But this regionalization, localization, and sector-specificity were not merely cultural traits. They were the law. Before the late 1990s, banks were prohibited from branching across state lines. Indeed, before the Civil War, only our states chartered banks, and when national chartering was (very sensibly) made possible during the mid-1860s, the National Bank Act of 1863 still required all national banks to follow the rules of the states where they operated, and the McFadden Act of 1927 re-emphasized that interstate branching was included in the prohibition.
But all of that changed with the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994, which legislated a time-table pursuant to which all banks would be permitted to merge, cross state lines, and grow with abandon no later than 1997. That was what set the stage for the sign-changes I happened to witness at Boatmen’s Bank several years later. Banks began growing and interstate branching at once.
Then, within the blink of an eye, Congress enacted and Bill Clinton signed into law the Gramm-Leach-Bliley Financial Services Modernization Act of 1999, which compounded the concentration trend unleashed by Riegle-Neal in repealing the old Glass-Steagall segregation of banking from securities dealing and insurance. The growing Riegle-Neal banks were now permitted to morph into massive financial conglomerates offering ‘one stop financial shopping’ to all comers.
Since ordinary folk had no need for such marvels, the ensuing conglomeratization of course had the effect of changing small local businesses’ and other retail depositors’ relative importance in the eyes of the bankers. Sure, these banks would continue to offer ordinary transaction accounts to ‘retail depositors,’ since cheap liquidity’s always useful to banks of near any focus or size. But the focus of the business of banking now changed. Instead of investing ‘patient capital’ in the ‘real’ economy – the primary markets where production is done – they turned to speculation in secondary financial and tertiary derivatives markets, where quick short-term ‘killings’ (or crashes) could be had.
Et voila, the era of globalization and financialization – the era of Big Finance – got underway just as its poster child, Bill Clinton, told us the era of ‘Big Government’ was ‘over.’
You know the rest. Over the past 25 years the banking sector has only grown ever more concentrated and ever more financialized. This has brought repeated 1930s style crises, each one ending, ironically, in yet more consolidation. (It was less than a decade ago that we spoke of banking’s ‘Big 6’ rather than today’s ‘Big 4.’) Meanwhile, the nation’s productive capacity – and, with it, our highest paying industries and our middle class – have hollowed out to the point that the nation’s now torn apart by the consequent wealth and income inequalities and the urban/rural divide.
Financialization has always meant deindustrialization and productive, then political and economic decline everywhere that it’s happened – from ancient Rome, to Habsburg Spain, through the Netherlands and Great Britain on down to … us.
What then to do? Until last weekend, one might have thought that the only way was to ‘repeal the 90s.’ But the failure of Silicon Valley Bank shows that this isn’t so. Instead, we can attain the same end by one simple expedient – an expedient we are going to have to take anyway just to stop hundreds of additional regional bank failres set to commence this coming Monday. I refer to uncapped, risk-priced universal deposit insurance for all local andnregional banks – a measure that’s fully as bipartisan, bicameral, and cross-regional in its support as it is urgently necessary if we’re to save banking and industry.
Here’s why …
As I have emphasized in multiple writings and interviews this week, Silicon Valley Bank’s troubles were almost entirely rooted in the lack of deposit insurance for accounts over $250K. Its ‘boring’ asset portfolio, comprising tech startup loans all of which were performing (no ‘toxicity’ or delinquencies, in conspicuous contrast to the troubled banks of 2008), Treasury securities that receive literal zero risk-weights under our capital regulations, and AAA rated MBS of the same variety found in the Fed’s portfolio, was solvent and sound. SVB’s
What did SVB in were accordingly two simultaneous shocks rooted in one event manifest on both sides of its balance sheet. Fed Chairman Powell’s misdirected rate hikes – the largest and fastest since Paul Volcker’s hikes in the late 1970s, which themselves triggered massive bank failures – both squeezed SVB’s main depositors, tech firms now thrown into recession by Jay Powell, and temporarily reduced the value of SVB’s Treasury holdings, now that new Treasurys must offer higher yields. This of course meant that SVB had fewer deposits coming in, more withdrawals going out, and a slightly less valuable portfolio matched up against those liabilities.
None of this spelled solvency risk: there is a reason, after all, that we do not make banks mark their Treasury holdings – any more than the Fed’s immense Treasury holdings – to market. But it did spell self-fulfillingly prophetic run-risk since many of SVB’s industrial depositors, with their huge payrolls and high daily operating expenses, had to hold deposits much larger than $250K, which to them is mere chump-change. And there are indications already that short-sellers and others, keen either to profit by an fall, or snap up SVB assets (and clients) on the cheap, or both, might well have sparked the run that did come.
Now of course some will say that the SVB management should have hedged rate risk, or that the partial rollback of Dodd-Frank in 2018 removed stress testing and enhanced prudential oversight that might – might – have prevented last weekend’s debacle. As one of the many who both testified before Congress, drafted legislation, and wrote quite indignantly against those rollbacks, I am course not unsympathetic to this view. But I must say that I find it silly as an emphasis right now. And that is not merely because of that ‘might’ I just wrote – which is warranted – but more for a much more compelling reason…
We have a much better solution in plain sight, which will both prevent the hundreds of new bank runs expected next week instantly, and bring us far better banking – indeed deconcentration, definancialization, and reindustrialization – going forward. That is, we can roll back the worst of the ‘90s without having to repeal anything but Federal Deposit Insurance caps. Please stick with me for a moment …
Consider the quandary into which our post-90s banking regime now places banks like SVB – not to mention our productive sectors and our nation itself in its efforts to reindustrialize after 30 long years of decline. The bank can specialize in servicing a specific sector with its specific needs, with all the concentration-risk and large-deposit-forgoing that this entails. Or it can grow and diversify by either becoming or being acquired by a megabank with too big to fail (TBTF) status, thereby trading in ‘patient capital,’ productive specialization and sector-specific expertise for financialized wheeling and dealing and associated preoccupations with price movements on secondary financial, tertiary derivative, and other stratified ‘global capital’ markets.
SVB’s clientele – and their counterparts in other productive industries, and indeed all of us who wish to end geographic concentration and financializtion to ‘make America make again’ – face counterpart quandaries. There is a vast literature on sector-specific and industrial banking, and all of the advantages that these offer. They were the secret to all of our republic’s ‘growth miracles’ before the accursed 1990s.
But sector-specific industrial banks are risky fund repositories for any business that is as prudent as it is ambitious. And the safety of the one-size-fits-all, TBTF, financialized and ‘diversified’ Big 4 generic banks only looks more imperative – while still undesirable – after debacles like that that of this past week. Indeed, we appear to be headed already for a much worse week commencing this Monday than last.
For this reason, last weekend I drafted legislation that took fewer pages than Glass-Steagall nearly nine decades ago, let alone massive Dodd-Frank of 2010 that so many are pointlessly talking about again now. That legislation will likely be enacted this coming week.
All that it does is to remove all caps on Federal Deposit Insurance, continue to risk-price its premia as required by law since 2005, and afford FDIC the option of progressively pricing those premia as deposit amounts grow. It also requires that premia be continually assessed, not only when the Deposit Insurance Fund drops below certain thresholds – the latter policy being perversely procyclical, not to mention imprudent – but continuously.
I cannot emphasize too strongly how urgent this task has become. The lack of deposit insurance is the sole reason our sector-specific and regional banks now face liquidity crises. There is literally no justification for this, now that we’ve risk-price insurance since 2005. There are also, as laid out above, multiple affirmative reasons to lift all caps – additional to the urgent imperative of avoiding resumed bank runs this Monday.
We will largely undo the concentration, financialization, and deindustrialization of the ‘90s. We will restore local responsiveness, nationwide community banking, and production. We will make America make again. And we will do it without even having to overturn Riegle-Neal or Gramm-Leach-Bliley, whose authors likely didn’t intend all our current troubles in any case.
And finally, we will bring one additional benefit that many are likely now overlooking: we will make of our FDIC our primary bank regulator again – a colossally important restoration. The Fed, which has always had too many other jobs to make a good bank regulator, was effectively made first among equals with the aforementioned legislation of 1999. But the FDIC is more focussed and more potent, charged with our capital-regulatory regime as it’s been now for decades.
As Trustee of the Federal Deposit Insurance Fund, moreover, the Corporation is charged with the prudent management of that Fund, meaning it’s best situated both to assess sensible premia and to ensure safety and soundness. Removing all coverage caps will enhance that role, and will magnify its sense of seriousness accordingly.
Let’s do it, then. And let’s do it now. We can literally have safer, more productive, more geographically dispersed and more production-centered banking this Monday. That will be a return to both our Jeffersonian and our Hamiltonian banking tradition. Indeed it will open the door back up to a Jeffersonian Republic by Hamiltonian Means.