So what is the bad thing that would happen if ALL deposits were covered by deposit insurance? Why don't we do it that way?
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It's a very bad idea. Why not just guarantee all investments? We could set a 10% minimum return. If you want interest on your account then you need to be the person taking the risk that an investment goes sour. The idea that the Govt should guarantee the principal of your investments doesn't work ... for obvious reasons.


This is the right distinction, I think: is it a bank account or an investment? My $10,000 chequing account with 0% interest is pretty clearly a bank account, and should be guaranteed; I shouldn't have to worry about my bank's financial statements; rather, I should be able to count on the banking system, including account guarantees. Whereas a $10 million corporate bank account making 5% a year is pretty clearly an investment, whether it's called a bank account or not, and it shouldn't be guaranteed.

Where do you draw the line? One suggestion would be that any account with no interest, or let's say interest that is less than half a 3-month Treasury bill, might qualify as a bank account, fully guaranteed. Or you could say that amounts under $1 million are guaranteed, no matter what the return, with that $1 million amount indexed to inflation. Or you could say that you have to anyone who wants a guarantee should just pay for it, with the insurance premium based on risk - in this case, the riskiness of the bank's asset management. Insurance companies could offer a product like this to banks, and the bank client could choose to buy the insurance or not. Rates would probably be very low at conservative banks, and higher at banks that are over-exposed to devaluation, like the SVB was.

But the starting point should be that banking and investing are just 2 ends of a continuum, and the system should seek to guarantee bank deposits and not guarantee investments. Guaranteeing ALL banking accounts is just creating more opportunity for abuse where I can park my money at a high return with a risky bank and then get bailed out by my more prudent co-citizens if things don't work out.

dtb