FDIC tool to prevent bank runs goes unused vs. coronavirus

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WASHINGTON — Congress gave the Federal Deposit Insurance Corp. approval in March to intervene if the coronavirus pandemic triggered bank runs or other liquidity strains, but nearly two months into the crisis deposits are through the roof and the FDIC has shown no sign of acting on its expanded authority.

The culprit for now is a lack of need, analysts say. Unlike in the 2008 financial crisis, there is currently no shortage of liquidity in the nation’s banks.

“The banking system doesn’t have a liquidity problem like it normally would in an economic crisis where banks have made a bunch of bad loans,” said William M. Isaac, former chairman of the FDIC and co-founder of the Isaac-Milstein Group. “This is a crisis that started in hospitals and in nursing homes.”

The onset of the virus brought fears of deposit outflows on top of other liquidity concerns. The Federal Reserve acted quickly with emergency liquidity backstops for key areas of the financial system, such as corporate and municipal bonds.

For an added safeguard, the Coronavirus Aid, Relief, and Economic Security Act authorized the FDIC to reinstate 2008-era programs to back all noninterest bearing transaction deposits as well as bank-issued debt.

But in stark contrast to the 2008 financial crisis, the pandemic crisis hasn't threatened bank liquidity. On the contrary, bank deposits have ballooned to unprecedented levels, likely in part because investors have fled a volatile stock market in search of safety.

"It's possible a liquidity crisis will develop, so regulators will probably watch from the sidelines and be ready to bring out tools if they're needed," Isaac said. "But I'm not sure they'll be needed."

In 2008, the FDIC used authority it had at the time to launch the Temporary Liquidity Guarantee Program — made up of the Transaction Account Guarantee Program and Debt Guarantee Program — as the credit crunch brought on by massive mortgage losses shook the nation's confidence in the banking system. Congress in 2010 required the FDIC to seek approval before re-launching the programs.

Yet since Congress reauthorized those backstops in March, the FDIC has not appeared to consider launching either program.

In the two months since the pandemic first took hold in the U.S., deposit levels have exploded. According to the most recent data from the Federal Reserve, deposits at commercial banks hover around $15.1 trillion dollars, up from $13.2 trillion at the start of the year, or an increase of about 14% in just under four months.

On a week-to-week basis from mid-March to late April, deposits grew at a clip never before seen in available Federal Reserve data. Since 1973, the nation’s deposits in commercial banks have grown by an average of about 0.13% a week. But in the seven weeks between March 11 and April 29, weekly growth averaged 1.57% — roughly 12 times the historic average, and the largest seven-week period of deposit growth on record.

Today’s picture of bank liquidity is a far cry from anecdotal reports of cash runs and deposit outflows that percolated in the early days of the pandemic. Fears of a cash crunch were palpable enough that the the FDIC sought to address depositors in a March 24 video bulletin from Chairman Jelena McWilliams, who told bank customers that the “last thing you should be doing is pulling your money out of the banks now, thinking that it's going to be safer someplace else.”

Some observers pointed out that the FDIC’s nod from Congress to redeploy liquidity programs was not a mandate so much as an unlocked door.

"The CARES Act was the first major piece of the federal response and was meant to be a stabilizing force with the crisis. Part of that is going back to your old tools and making sure they’re ready when they’re needed," said one industry source. "It was Congress's way of saying, if you need this, we support it."

Others cautioned that a full-fledged financial crisis as a result of the pandemic was still a distinct possibility, particularly for community banks.

“Even if the 2008 financial crisis was fundamentally different than the current public health crisis, COVID-19 could have the same ultimate impact on banks that the last crisis did if this drags out and creates concerns about the financial strength of banks in the marketplace,” said Brian R. Marek, a partner at Hunton Andrews Kurth. “Community banks are still concerned about the potential for their customers to start withdrawing large amounts of cash.”

Marek said that it was “a bit disappointing” that the regulators hadn't signaled how they were prepared to act if any temporary liquidity action became necessary for the financial system to weather the economic slowdown.

“Some kind of action from the FDIC, especially in this low interest rate environment, that expanded deposit insurance for all non-interest-bearing accounts would be a much more persuasive sign to consumers at large that their money is safe,” he said. “This is about the FDIC demonstrating the strength of the financial system and assuring depositors that their banks are a safe haven.”

But others emphasized that given the uncertainty in the months ahead, it may be too early for measures like the FDIC's temporary liquidity guarantees. They note that the 2008-era programs were born of a financial crisis and focused on keeping the financial system’s plumbing intact.

“Right now, the interbank lending market is working,” said Luigi De Ghenghi, a partner at Davis Polk. “The big thing about the Temporary Liquidity Guarantee Program during the last crisis was, more than almost any other tool, it allowed bank holding companies and banks to issue debt in the capital markets and helped unblock the interbank lending market.”

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FDIC Federal Reserve Coronavirus Liquidity CARES Act Deposits Deposit insurance
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