The Need to Reform the Federal Deposit Insurance System

Abstract

The biggest financial disaster in modern history struck the savings and loan industry during the 1980s. This paper argues that the unifying cause of this debacle was the way in which the federal deposit insurance system is structured. The fundamental cause was not fraud and deregulation, as is commonly argued. The government not only permitted reportedly insolvent institutions to continue to operate, it permitted many such institutions to grow by offering relatively high rates on their deposits. Unfortunately, the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA) of 1989 may not prevent a similar situation from ever recurring. Therefore, one must understand exactly what happened, what the FIRREA does and does not do, and the proposals for reforming the entire structure of the federal deposit insurance system. Copyright 1991 Western Economic Association International.

Determinants of the rate of return on S&L assets: 1970–97

“…He alleges that, "...the very availability of such insurance enabled many inadequately capitalized savings and loans to engage in high-risk activities and to gamble for resurrection." Other studies [Barth and Bartholomew, 1992;Barth and Brumbaugh, 1992;Brumbaugh, 1988;Cebula and Hung, 1992A;and Kane, 1982] argue similarly, although the study by Saltz [1995] seemingly provides empirical evidence to the contrary.…”

“…This circumstance led to increased mortgage loan delinquency and to foreclosure rates (which damaged S&:L revenues), as well as to a sharp fall in housing prices, resulting from declining housing demand. As a consequence of such effects, Barth [1991], Barth and Bartholomew [1992], Barth and Brumbaugh [1992], and others, argue that S~:L revenues as well as S~L assets, were adversely affected.…”

“…There are a number of factors that have been argued in the literature to influence StcL mortgage portfolio risk. Based on Barth [1991], Barth and Bartholomew [1992], Barth and Brumbaugh [1992], Brumbaugh [1988], and Chou and Cebula [1996], PML is expected to be a function of (1) the propensity for S&L directors and officers to pursue low-risk or high-risk lending strategies and (2) the economic viability of the real estate market.…”

An empirical note on the impact of federal deposit insurance on bank failures in the U.S.

“…Several authors have argued and hypothesized that federal deposit insurance has encouraged financial institutions to undertake riskier activities than otherwise would be the case and, as a result, that the federal deposit insurance system may have increased the likelihood of (rate of) financial institution failures in the U.S. [Barth, 1990[Barth, , 1991Barth and Brumbaugh, 1992;Kane, 1985;Keeley, 1990]. Formal empirical support for this hypothesis for the case of commercial banks is limited, however, except at the individual bank level.…”

America’s unreported economy: measuring the size, growth and determinants of income tax evasion in the U.S.

“…Musgrave (1987, p. 59) described the TRA as "the most sweeping reform since the early 1940." The TRA introduced a number of reforms described in Barth (1991), Barth & Brumbaugh (1992), Ott & Vegari (2003), and Sanger, Sirmans, & Turnbull (1990). Ott & Vegari (2003) noted that the TRA broadened the tax base by reducing itemized deductions, and once fully effective in 1988, replaced the fourteen bracket tax schedule with two tax brackets set at 15 and 28 percent.…”