Postal Banking Didn't Work in 1910 — and It Won't Now
In a speech in New York City, Sanders vowed to remove the ability of the Federal Reserve to pay interest to banks for their excess reserves, turn the credit rating agencies into nonprofits, allow the U.S. Postal Service to offer bank products, and cap ATM fees and interest rates for loans.
Sen. Elizabeth Warren, the founder of the Consumer Financial Protection Bureau, appeared alongside Director Richard Cordray on Wednesday during a rare joint appearance to discuss politics, financial products, and breaking up the big banks.
Democratic presidential candidate Bernie Sanders and Sen. Elizabeth Warren, D-Mass., have endorsed the creation of a U.S. postal banking system much like the limited banking services offered by postal systems around the world. But one need only look at our own national history to see why their plan would not work.
Sanders and Warren have touted the idea as if the U.S. never offered banking services through the postal service. But in 1910, Congress conceived of the U.S. Postal Savings System, run by the predecessor to the U.S. Postal Service. The program died on July 1, 1967. Illustrating yet again the cyclicality of democracy, while some Democrats want this now, Republicans wanted this a century ago.
As Cornell professors Maureen O'Hara and David Easley observed in a 1979 postmortem of that system, the postal savings idea came about earlier in the century after the Panic of 1907 led the public to lose confidence in the banking system. The proposal for a postal savings idea was introduced at the 1908 Republican National Convention. It included "full faith and credit" backing – up to a limit – for savings deposited through the postal system. Democrats, meanwhile, preferred government insurance of private bank deposits, as some states had already been doing. (The Federal Deposit Insurance Corp., of course, would be created later in the 1930s.)
Following the convention, President Taft was elected to his first term, and he called on Congress to propose a program for low-income savers. The final bill targeted low-income savers, kept deposits local and sought to limit direct competition with banks.
To target low-income savers, government backing for postal savings was capped, first at $500 per depositor, and then at $2,500 in 1918. That is equivalent to $7,875 and $39,377, respectively, in 2015 U.S. dollars. To keep deposits local, 95% of postal savings deposits were placed in national banks located close to the depositor, rather than in U.S. Treasury securities, since unlike now, public debt was viewed as temporary.
To limit direct competition with banks, the postal savings system could not lend to individuals. Banks that held postal savings deposits paid 2.25% interest on them – with 2% going to the depositor and the rest going to the postal system for administrative costs – which was lower than the industry norm. In 1910, banks paid on average 3.5% on ordinary deposits. Only an act of Congress could change the parameters of the postal savings system.
But the rigidity of a government-backed and government-managed system worked against integrating the postal savings program into the financial system. During the Great Depression, deflation pushed the real return on non-insured deposits below insured postal savings deposits, leading to outflows of the former especially at uninsured savings and loans, which contributed to housing market instability. When the postal savings system finally ended in 1967, deposits still paid the same fixed 2%.
Like their Republican predecessors, Warren and Sanders propose targeting low-income savers, and this time borrowers too. Sanders' proposal sounds like a European postal bank: a postal savings system offering a limited amount of banking services. Warren describes what amounts to quasi-nationalization of payday lending, perhaps through a public-private partnership with community banks and credit unions. Some, however, argue that financial institutions participating in such a program would wind up having to charge the same rates as the payday lenders.
Warren and Sanders have mentioned the fact that banks are closing branches as justification for postal banking. But they ignore the fact that the USPS also faces pressure to close post offices. They also fail to mention that for many people, being unbanked reflects a choice as my colleague, Thomas Miller of Mississippi State University, argues.
Neither proposal makes clear how to offer low-cost banking with subsidized borrowing while also improving the USPS finances. Yes, new services will bring in more revenue, but the costs may be even higher, meaning the USPS could end up worse off financially.
Another troubling aspect of these proposals is that they reflect renewed interest in populist ideas about banking. In "Fragile by Design," Columbia University's Charles Calomiris and Stanford's Stephen Haber point out that the U.S. has experienced frequent banking crises, including the Panic of 1907. The source of instability arose from the collusion between rural populist politicians and small banking interests to pass state laws that prevented out-of-state bank competition and even branch banking. State laws made our state-centric banks too small to weather regional shocks, resulting in thousands of bank failures over the last two centuries. Even the recent crisis reflects the effects of populist banking politics.
A postal savings system won't likely deliver better banking services. A better approach is to let customers choose what financial services in the marketplace work best for them.