NDN Releases Paper Discussing Extension of the TAG Program
NDN is proud to release a paper from Dr. Rob Shapiro and Doug Dowson, "The Financial Hazards and Risks Entailed in Extending Unlimited Federal Guarantees for Deposits in Transaction Accounts." From the introduction of the paper:
"In the aftermath of a financial crisis, policymakers often must determine how best to trade off future security from a similar crisis and future moral hazard. The more the government pledges to protect the value of the assets of financial institutions in a crisis, the greater the risks that those institutions may take in search of higher profits. This moral hazard may increase the likelihood of a future crisis.
Since the 2008-2009 financial meltdown, U.S. policymakers have faced this trade-off in various forms. One particularly pure example is evident in the current debate over extending the “Transaction Account Guarantee” (TAG) program. This program was created in October 2008, at the height of the last financial crisis, to temporarily guarantee deposits held in non-interest-bearing transaction accounts, above the existing $250,000 limit. The higher coverage was voluntary, yet it proved to be very popular: 87 percent of banks and savings institutions that were part of the Federal Deposit Insurance Corporation (FDIC) system opted for the increased coverage. In the midst of the widespread sense of financial panic that prevailed in the first months of the crisis, the TAG program was intended to bolster confidence in financial institutions, and discourage customers from withdrawing their funds. With several large financial institutions bankrupt or sinking fast, it is unsurprising that most banks welcomed the new guarantee.
Based on economic reasoning and analysis, we conclude that extending the current, unlimited transaction account guarantee would be harmful to the stability and competitiveness of the U.S. banking sector. Unlimited deposit insurance increases moral hazard and represents a threat to the nation’s long-term financial stability. History has shown that unlimited deposit insurance increases the likelihood of banking crises. Emergency measures to increase deposit insurance during a financial crisis should therefore be removed as soon as possible. The transaction account guarantee is also unnecessary now that the U.S. banking sector has returned to pre-crisis levels of profitability. As we will show, claims that the guarantee is necessary to ensure a “level playing field” for small and large banks are also flawed. Since December 2008, non-TAG deposits have grown in banks of all sizes, including small institutions. Furthermore, extending this federal guarantee could send a negative signal to investors and the public that four years after the crisis has passed, Congress and the President still lack confidence in the security of the U.S. banking system."
To read the rest of Dr. Shapiro and Mr. Downson's paper, please click on the link below.
