It’s hard to think of a topic where following the conventional wisdom can be more dangerous.
And that topic is banking.
It’s generally accepted as an absolute truth by the public and most financial experts that putting your money in a domestic bank is a safe and responsible thing to do. After all, if anything were to go wrong, your deposits are insured by the government.
As a result, most people put more thought into which shoes they should purchase than which bank should be entrusted with their life savings.
It’s a classic moral hazard—a situation in which a person is more likely to take risks because the costs won’t be borne by that person. In the case of banking, that’s how a lot of people think, but it isn’t necessarily true that individuals bear no costs of their banking decisions.
The prudent thing to do is ignore the conventional wisdom and look at the facts to form your opinions. Choosing the right custodian for your life savings makes a difference—and it deserves some serious thought.
A False Sense of Security
In the US, the Federal Deposit Insurance Corporation (FDIC) insures bank deposits. In the case of a bank failure, the FDIC pays depositors up to $250,000. The FDIC has a reserve of around $30 billion for this purpose.
Now, $30 billion might sound like a lot of money. But considering that the FDIC insures around $9 trillion in deposits, the $30 billion in reserve amounts to just a drop in the bucket. It’s actually less than half a penny for every dollar it supposedly insures.
In fact, there are over 36 banks in the US that have deposits larger than the FDIC’s reserve. It wouldn’t take much for the FDIC itself to go bust. One large bank failure is all it would take. And with many of the big banks leveraged to the hilt, that isn’t as remote a possibility as many would believe.
Oddly, this doesn’t shake the confidence the public and most financial experts place in the US banking system.
