Thursday, October 2, 2008


In the late evening of March 5, 1980, Rep. Fernand St. Germain, a Democrat from Rhode Island, inserted a rider into a banking bill that wound up costing taxpayers tens of billions of dollars in the S&L bailout.

Mr. Germain increased FDIC insurance on bank deposits to $100,000 from $40,000. The idea was to help sick thrifts, but voters eventually put an end to Mr. St. Germain's career amid revelations about his financial ties with S&L lobbyists. One of his partners in this midnight Treasury raid was then-Senator Alan Cranston of California, later tied to the Keating Five banking and lobbying scandal.

This seemingly innocuous deposit insurance hike by Congress exposed taxpayers to huge risk. It ended up incentivizing brokers to ship "hot" money in $100,000 chunks to whatever desperate thrift was paying the highest rate. When the savings and loan crisis hit in 1989, taxpayers were on the hook for $150 billion in losses. All of this is well documented in Robert Bartley's classic: The Seven Fat Years.

Now Congress is about to repeat that same mistake by raising the amount of deposit insurance by another 150% to $250,000. This again will more than double taxpayer losses when banks go belly up and create even less incentive for big money depositors to monitor the safety and soundness of the banks they patronize.

Raising the deposit insurance limit was an idea floated by me and other economists several weeks ago as an alternative to the $700 billion Paulson bailout plan. Now Congress wants to do the Paulson plan AND the increase in deposit insurance.

The idea behind raising the insurance limit is to start a reflow of dollars into bank deposits and away from U.S. Treasury securities, inducing banks to lend again and preventing a deep recession. But it will also be an invitation for troubled banks to started taking high-risk gambles in real estate and other ventures with taxpayer insured accounts. "Heads they win, tails the taxpayer loses," says Cato institute President Ed Crane. "Only Congress could think up a scheme like this."

In 1980, no one much noticed Freddie St. Germain's midnight raid on the Treasury. This time around Congress can't claim it didn't know what it was doing. Congress just took a $700 billion package and made it perhaps twice as expensive. They call this an improvement. Brilliant.

-- Stephen Moore

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