The Implicit Costs of Government Deposit Insurance

Abstract

Most people believe the benefits of deposit insurance provided by the Federal Deposit Insurance Corporation (FDIC) clearly exceed the costs. However, a growing literature suggests the benefits of FDIC insurance are overstated while the costs are understated. We add to this literature by considering the implicit costs of FDIC. Specifically, we consider the costs arising from (1) an implicit taxpayer backstop and (2) suboptimal pricing. Since such costs are routinely omitted from traditional cost-benefit analysis, most studies of the FDIC tend to be biased in favor government-provided deposit insurance.

Keywords: Actuarially fair, Bank failures, Comparative Institutional Analysis, Deposit insurance, Diamond-Dybvig, FDIC

JEL Classification: E44, G28, G21