7 Pages Posted: 11 Mar 2015
Date Written: March 10, 2015
Most depositors love the security offered by the Federal Deposit Insurance Corporation (FDIC), but few realize the true costs of deposit insurance. Since government deposit insurance is not priced at “actuarially fair” rates, it raises the costs of insurance for depositors and encourages excessive risk in the financial system. We review the theoretical argument for actuarially fair rates and compare the actual rates assessed under the FDIC to an estimate of the fairest rate that could be provided by the FDIC. We conclude that the deposit insurance offered by FDIC is not fair. Indeed, historical rates deviated from the ideal by more than $0.03 per $100 insured on average. Considering that the average annual assessment rate is less than $0.07, the observed deviations tend to be quite large. We discuss how this policy increases bank risk and propose that, if policymakers insist on providing deposit insurance, they should find a more appropriate way to price it.
Keywords: Actuarially fair, Bank failures, Deposit insurance
JEL Classification: E44, G28, G21
Suggested Citation: Suggested Citation