The Federal Deposit Insurance Corp. has a new proposal to make deposit insurance premiums more risk-based for small banks. Unfortunately, the plan is a classic example of too little, too late.

It is "too little" because comprehensive risk-based premiums should be applied to all banks, including "too big to fail banks" — not just small ones. After all, the FDIC is an "insurance corporation," and most insurance companies charge risk-based premiums.

It is "too late" because the changes should have been implemented after the FDIC's fund effectively went bankrupt in 1991-92. The additional premiums would have helped prevent the fund from going into the negative again in 2009 and 2010. Banks can't go bankrupt twice, so why should their insurer?

If the FDIC wanted real deposit insurance reform, it would focus on insuring depositors (not banks). This was the original purpose of the FDIC, as stated in its first annual report in 1934.

Although banks like to think of the FDIC's fund as "their fund" since they pay into it, it is ultimately taxpayers who back the FDIC through its line of credit with the Treasury Department and the government's "full faith and credit."

The bank depositors' view of deposit insurance reform puts the "corporation" back in the FDIC. The following reforms would make the FDIC act more like an insurance company rather than a government agency:

  1. The statutorily designated reserve ratio should be increased to at least 1.5%, so it becomes the floor rather than the ceiling.
  1. There should be no cap on the size of the DRR or the insurance fund.
  1. No rebates should be paid to banks even in the best of times.
  1. The deposit insurance limit should be $100,000.
  1. In addition to regular premiums, special risk deposit premiums should be annually assessed in a 3- to 10-basis-point range for banks with a targeted risk profile, such as those with subprime lending or rapid growth as well as de novo banks and thrifts. Using the minimum 3-basis-point assessment, a rapidly growing de novo bank making subprime loans would have at least a 9-basis-point annual special assessment.
  1. The FDIC should also impose a 3- to 8-basis-point special assessment for TBTF banks based on total assets rather than deposits. A rapidly growing TBTF bank with a relatively small insured deposit base but a subprime lending affiliate would pay the highest 8-basis-point annual premium plus the 6-basis-point special risk assessments for rapid growth and subprime lending.

The above deposit insurance reforms, through enhanced market discipline and a significant increase in premiums paid into the Deposit Insurance Fund, likely would have prevented it from going into the red a second time. Unfortunately, they would never seriously be considered by the FDIC and Congress.
I believe this because I proposed all of the above reforms and more in testimony before the FDIC Board and Congress in both 1995 and 2000. These recommendations fell on polite but deaf ears. My April 25, 2000, testimony can still be found on the FDIC's site.

Subsequent changes have pushed the deposit insurance fund in the opposite direction. The deposit insurance limit was increased to $250,000. Most banks paid no premiums for years, and many received rebates and credits. Needless to say, there were no special assessments for subprime lending or for new, rapidly growing or TBTF banks.

Rather than increasing the statutory DRR minimum to 1.5%, Congress reduced it to 1.15% with a 1.5% cap and then under Dodd-Frank increased the minimum to 1.35%, removed the cap and allowed for rebates above 1.5%.

Unlike increased capital or liquidity requirements, living wills, stress tests and other proposed fixes I call "regulatory opiates," a truly risk-based TBTF assessment immediately impacts quarterly profits. That's what big-bank CEOs, analysts and shareholders really care about. Rather than impose new and untested requirements on TBTF banks or worse yet, try to break them up, such an assessment properly charges them for the TBTF competitive advantage and privilege.

Kenneth H. Thomas, an independent bank consultant and economist, was a lecturer in finance at the University of Pennsylvania's Wharton School for over 40 years.