Thursday, September 03, 2009

What Does The FDIC's Need For Backstopping Imply For America's Financial Power?

Dennis Berman wrote an interesting piece in Tuesday's Wall Street Journal concerning the current cries abroad- yet again- for an end to the role of the US dollar as the international reserve currency.

I've read these pieces for over 20 years now, and, until now, I have always considered them wishful thinking on the part of foreign economic wannabes.

Berman even included the comments of one academic who continues to label this desire wishful thinking.

But there are developments in the US domestic economic and financial situation which could well herald the final coming to feasibility of these calls for an end to US 'economic hegemony.'

For me, they became more thought-provoking and sobering with the recent spate of articles calling attention to, of all things, the FDIC insurance fund's near depletion.

Of all the FDR-era New Deal programs, the FDIC may well be the first to officially crater. And this marks, I believe, a very differential milestone of a very troubling sort for US economic power.

Why? Why this one somewhat innocuous program, rather than, say, Medicare, Social Security or Medicaid?

Precisely because, while those latter three are explicit social wealth transfer payment schemes, the FDIC program was designed to be a private business-funded insurance program to prevent a repeat of the 1930's era bank collapses which caused depositors' funds to simply evaporate.

That Sheila Bair may have to call on Treasury to write a check to replenish this bank sector-financed program is deeply worrying to me. It means that federal regulatory ineptitude has caused the bank deposits insurance program obligations to have outrun its resources, making this promise essentially empty.

Since the US has an outstanding deficit, any funds lent to the FDIC from Treasury must, given money's fungibility, be borrowed from the financial markets. Thus, the promise to safeguard consumer bank deposits- and money market balances, too- is being financed with borrowing.

There is nothing "there" anymore. The deposit insurance promise will now simply be dependent upon market funding appetites.

This was always supposed to be a federally-designed and -managed scheme whereby private commercial banks paid insurance premiums to be used to guarantee the consumer deposits of banks which were declared bankrupt and seized.

Now, the premiums and their income have been overwhelmed by bank failures. The program hasn't worked, although it took some 70 years to occur. Whether the rate was too low, or FDIC bank closures too lenient, poor design and/or mismanagement has resulted in this program failing.

If a privately-financed, government-run scheme from the New Deal era has failed, what is one to imagine has occurred with government-financed, government-run schemes? Because government-financed is now just another term for borrowed funding.

I suspect the longer term implications for the looming FDIC fund insolvency is going to be skyrocketing interest rates on US debt and a consequent impoverishment of Americans due to the gradual, practical, if long term aversion to dollar-denominated obligations by the rest of the world.

Everyone understands government borrowing for impractical social schemes. But when a US private sector-funded program is seen to become unaffordable, it has to call into question the soundness, creativity, ingenuity and superiority of the now-crippled American capitalistic system for wealth creation.

What once was the envy of the world as an economic wealth-creation engine has been severely damaged over the past several years. Perhaps, now, we are seeing, sufficiently seriously to make the rest of the world's investors finally doubt the once-accepted truism that America is the best country for wealth creation on the globe.

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