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naraburns  nihil supernum  1yr ago (text post)   34909 thread views

Culture War Roundup for the week of March 13, 2023

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How do you allow a narrow bank without collapsing the entire banking system? Once you can put your cash in a place that has no risks aside from actual fraud and sovereign default, why would you put it anywhere else? And if you won't put it anywhere else, how do private loans get made? This is made worse by the fact that a narrow bank today would pay more than savings, but even if a narrow bank paid zero, the fact that the risk was literally as close to zero as possible would likely result in most commercial bank deposits vanishing, and then who would make loans?

Once you can put your cash in a place that has no risks aside from actual fraud and sovereign default, why would you put it anywhere else?

In ye olden times also known as "the late 80s", it was common (at least in Northern Europe) for bank accounts to pay actual interest, particularly for fixed term deposits. This would be that same thing expect instead of a fixed term, the depositer would be taking some minor risk in exhange for return on their deposit. Fully guaranteed accounts might in turn pay no or even a small negative interest (eg. you have to pay an annual fee for the bank to safeguard your money).

Commercial banks could offer higher interest rates on deposits, lend out their own capital, or issue bonds. If this didn't provide sufficient funding for whatever amount of lending the government wanted to see, the government itself could loan money to banks to re-lend.

Really though, the easiest patch to the system would just be for FDIC insurance to (officially) cover unlimited balances, or at least scale high enough that only the largest organizations had to worry about it. It makes no sense to require millions of entities (if you include individuals of moderate net worth) to constantly juggle funds to guard against a very small chance of a catastrophic outcome that most of them aren't well positioned to evaluate the probability of. That's exactly the sort of risk insurance is for.

If the concern is that this will create moral hazard because banks that take more risks will be able to pay higher interest rates and fully-insured depositors will have no reason to avoid them, the solution is just for regulators to limit depository institutions to only taking on risks the government is comfortable insuring against. Individuals should be allowed to take on risk to chase returns, but there's no compelling reason to offer this sort of exposure through deposit accounts in particular. Doing so runs contrary to the way most people mentally model them or wish to use them.

This results in a fully socialized lending system with the government making all the decisions. Which is likely where we're headed ANYWAY, I'll grant, but it seems like a bad end.

Why not require banks to buy insurance instead of government regulation? Get market pricing on risks instead of government fiat?

Insurance is a key if not the main function of the US government and many other governments. They can print money. There’s no insurance company big enough to insure. SVB. Maybe a consortium could also insure a little. But the insurance industry is not bigger than the banking industry. They couldn’t insure a bank issue that is systematic with multiple failing. You would move the stystematic risks for bank failure to banks failure causing insurance failure. AIG had a quant insurance unit that insured some financial risks and surprise surprise they sold it too cheap and blew up.

Why not require banks to buy insurance instead of government regulation?

Forcing banks to buy insurance still is government regulation.

Yes it is. I should’ve made it clear. One is command and control (ie you must do XYZ). Think old school environmental regulation. The second is more like a carbon tax. It regulates via pricing arguably allowing a more accurate risk.

Who are you going to buy global financial collapse insurance from? What counterparty can be relied on to pay out in such a scenario?

Who are you going to buy global financial collapse insurance from? What counterparty can be relied on to pay out in such a scenario?

You gotta have physical. Physical gold, yes. But also physical land you can reach, physical guns, and a physical body of followers you can trust.

In the case of global financial collapse the dollar is probably worthless so who cares?

Once you can put your cash in a place that has no risks aside from actual fraud and sovereign default, why would you put it anywhere else?

Even a small yield on things like private loans would be worth it for larger sums. I'm sure that there's a certain subset of business that would take 0% yield for 0% risk, but I don't think that's everyone.

I'd imagine the banks that make money off your deposits would actually have to give you a cut of the pie as enticement. And really, why shouldn't they?

In theory. But in practice the federal government bails out “risky banks” so question is whether there is much juice to be squeezed.

Wouldn't banks just increase their interest rate to attract depositors? It's self correcting: some people would choose the least risky option, their money would no longer be available for risky investments, and so the remaining people with less risk aversion would get greater returns.

I think risk aversion is strong enough that the banks would not be able to increase their interest rates sufficiently while still loaning money profitably. That is, fractional reserve banking (and thus the whole financial system) is based on fooling people into taking more risk than they'd like.

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