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Look forward, not backward to fix FDIC's flawed brokered deposit rules

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I read with interest that the American Bankers Association, as part of its response to the Federal Deposit Insurance Corp.’s request for comment on its brokered deposit regulations, commissioned a leading law firm to prepare a legislative history of the brokered deposit restrictions adopted as part of the Federal Deposit Insurance Corporation Improvement Act of 1991.

Unfortunately, the legislative history is not useful in today’s brokered deposit debate. Instead, the focus should be on challenging the FDIC’s inaccurate characterization of brokered deposits and the importing of those characteristics into other policies.

Not only have others (including myself in a 1992 comment letter to the FDIC in connection with the adoption of the current regulations) examined the legislative history of the brokered deposit provisions, but it is clear from those histories that Congress did not act with a single mind or intention. So the legislative history is not the Rosetta stone that will unlock the secret meaning behind the statutory restrictions. The FDIC itself has acknowledged this.

I represented Merrill Lynch and other brokers during congressional consideration of FDICIA. As a result, I was present at the significant congressional debates on brokered deposits and had firsthand dealings with members of Congress on the issue. The advocates for eliminating, or severely restricting, brokered deposits were divided on their rationale. The Treasury Department was seeking to lower taxpayer exposure to the insurance fund by limiting coverage of various types of accounts, including brokered deposits. Some members of Congress linked brokered deposits to thrift failures. Still others asserted that brokered deposits were a product for the wealthy, who do not need FDIC coverage.

Proponents, who in my view were a significant majority, cited studies, including findings of a congressional committee, refuting any connection between brokered deposits and thrift failures, as well as studies citing the benefits of having access to a national market for deposits.

Perhaps the most telling statement during the debates came from Rep. Frank Annunzio, a senior Democrat on what was then called the House Banking Committee. Mr. Annunzio announced that he would not support the Treasury Department’s position because he had asked both the Treasury Department and the FDIC for data supporting that position — and had received no response.

Congress being a creature of compromise, the vocal critics had to be appeased. A House bill with rather mild limitations was made more restrictive in the Senate and then modified again in the FDICIA conference committee. The resulting restrictions were not based on any fact finding or recommendations from the bank regulatory agencies. They simply reflected political reality.

At no time during congressional deliberations was the definition of “deposit broker” adopted in 1989 debated. Securities brokers, the primary target of critics, would meet any definition that would have been proposed. So there was no constituency for changing the definition.

Where should the resources of the banking and securities industries be directed today? Certainly the FDIC’s expansive reading of the definition of a “deposit broker” and its narrow reading of exceptions should be challenged.

However, the primary focus should be on questioning the premises underlying the FDIC’s current policies. The FDIC mantra is that brokered deposits are “high rate,” “volatile” deposits and that there is a correlation between brokered deposit use and bank failures. But this is simply false.

Rates on brokered deposits are substantially less than other sources of deposits such as listing services and internet deposits. Brokered deposits are not volatile: They did not run during the last financial crisis, and, in fact, they increased during the peak years of the crisis. Recent scholarship by James Barth, a professor of finance at Auburn University, has demonstrated that there is no correlation between brokered deposits and bank failures.

The FDIC should be required to justify policies that utilize its expansive definition of a brokered deposit. This would include abandoning the concept of “core” deposits, which supposedly are less likely to run during a crisis, or amending the definition to include brokered deposits that exhibit stable characteristics. The FDIC also should revisit its insurance premium formula and the runoff ratios in the liquidity regulations, each of which treat brokered deposits as a less desirable category of deposit.

In other words, let’s not look to 1991 to address the issues of 2019.

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