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A.k.a. “moral hazard”. When people take financial risks (such as holding more than $250K in FDIC insured bank account), why should taxpayers cover their losses

A.k.a. “moral hazard”. When people take financial risks (such as holding more than $250K in FDIC insured bank account), why should taxpayers cover their losses?

comte7092 4y ago
> why should taxpayers cover their losses It doesn’t follow that there will be any losses to cover. The government can take ownership of the assets of the bank and won’t be stuck having to sell them at a loss.
- ivalm 4y ago
  If you mark to market the assets are less than liabilities. It’s unlikely government will keep to maturity a bunch of 30 year mortgages. At the same time, we should just make FDIC limit infinite and make depositors whole.
  - comte7092 4y ago
    The fed already has billions of dollars worth of mortgage backed securities on its balance sheet right now.
    - ivalm 4y ago
      I mean sure, but when it transacts it will be marked to market, it won't be just valued at the original hold to maturity so fed will take a loss. Also, fed is trying to shrink its balance sheet, presumably.
      - comte7092 4y ago
        I don’t believe the fed typically marks its assets to market, though I’d be open to a correction on that point. Typically they just roll off the balance sheet by letting assets mature and not re purchasing. They are indeed trying to shrink their balance sheet, but at the volumes they are working at, the entirety of SVBs assets amount to a few months of the fed’s current volumes.
- tripletao 4y ago
  It doesn't matter whether the bonds are sold now or held to maturity; the loss is exactly the same either way. For a simple example, let's say interest rates are independent of time to maturity and initially 2%, and we purchase a bond that pays $1000 in ten years. That will cost us 1000/(1.02^10) = $820. After two years, that bond now has FMV of 1000/(1.02^8) = $853. But then interest rates increase to 4%, so its FMV drops to 1000/(1.04^8) = $731. If we sold today at the FMV then we'd realize an $89 loss from our purchase price. That's neither better nor worse than holding to maturity, though--that's what makes it the FMV. In the case where we sell, we'd get $731 now, but we could reinvest it at 4%. After the remaining eight years, that would give us 731*(1.04^8) = $1000, exactly the same as if we'd held. HTM accounting treats the two cases as different, but that's an arbitrary regulatory decision, untethered from any economic reality. It has no meaning outside that narrow compliance purpose. The SVB's decision to treat that accounting fiction as if it were economically meaningful appears to be a major part of how they blew themselves up.
anonuser123456 4y ago
There is a legitimate issue beyond “but Capitalism” here. Banks that may be otherwise solvent may become insolvent because of a domino risk of bank runs. Probably the right thing to do is forced equity dilution of a bank experiencing a run. That is, the Fed buys senior equity in the bank and the injection pays for short term losses. The equity injection guarantee alone would likely be enough to stop the contagion and calm markets.
- dragontamer 4y ago
  So 15 years after 2008 and TARP, our solution is to reach for the most extreme tools available to us yet again? I thought "TARP" / equity injections into banks was a "never again" kinda deal. With Dodd-Frank regulations being passed back then to try to stop these things from being regular. We can't just buyout every bank that collapses. --------- At a minimum, I want to see major banks (similar to AIG) teetering on the brink before we reach for those tools again. This absolutely should not, and cannot, be our main way forward whenever a banking issue arises.
  - sidewndr46 4y ago
    It was in fact a "one time" thing done to save the banks. I have not even reached 40 years of age but have lived through somehow 4 "once in a lifetime" economic events. Perhaps economists believe that the human lifespan is only a few years?
- Nifty3929 4y ago
  I like this idea, but how would the correct share price be established? It must be conservatively low to avoid taxpayer burden. I’d also insist that the govt/fdic must sell their shares on the open market with 30 days, even at a loss.
- louloulou 4y ago
  > Banks that may be otherwise solvent may become insolvent because of a domino risk of bank runs. That to me implies the bank was never solvent in the first place. You could have easily created a bank that is always solvent, see the case of The Narrow Bank, but the Fed wouldn't allow it.
thephyber 4y ago
> why should taxpayers cover their losses Most likely there are no losses so long as the assets don’t need to be sold in a fire sale. The bank just needs liquidity.
bedhead 4y ago
In what bizarro world should holding cash in a perfectly legitimate bank to earn a negligible interest rate be considered "taking a financial risk" on par with like buying crypto or something???
- swatcoder 4y ago
  That bizzaro world of deposits bearing risk is the one we’ve all been knowingly living in for the entire history of banking. The FDIC is a modern intervention that protects most personal and small business accounts from needing to consider that risk. Clearly, some people who grew up in the shadow of that insurance protection failed to learn about this “bizarro” world that they lived in and made uninformed choices when they suddenly came into money. But the world never changed, just the naiveté of the people making deposits.
- Ekaros 4y ago
  So they are earning an interest? As long as that is above 0 and not negative they should expect that some gambling is going on. After all there is no risk free investment.
  - flandish 4y ago
    “Interest” is not the same as “risk with investment.” You don’t open a savings acct and get told “you could lose this money.” You’re given a sold-to-you contract from the bank for a specific rate of return for the privilege of them being allowed to hold and work with your money. If one chooses to dep >250k - that’s on them.
pgwhalen 4y ago
Because there is incredible social utility in having the most basic form of money (bank deposits) actually retain its value without depositors having to think too hard about it.

A.k.a. “moral hazard”. When people take financial risks (such as holding more than $250K in FDIC insured bank account), why should taxpayers cover their losses?

comte7092 4y ago

> why should taxpayers cover their losses It doesn’t follow that there will be any losses to cover. The government can take ownership of the assets of the bank and won’t be stuck having to sell them at a loss.

ivalm 4y ago
If you mark to market the assets are less than liabilities. It’s unlikely government will keep to maturity a bunch of 30 year mortgages. At the same time, we should just make FDIC limit infinite and make depositors whole.
- comte7092 4y ago
  The fed already has billions of dollars worth of mortgage backed securities on its balance sheet right now.
  - ivalm 4y ago
    I mean sure, but when it transacts it will be marked to market, it won't be just valued at the original hold to maturity so fed will take a loss. Also, fed is trying to shrink its balance sheet, presumably.
    - comte7092 4y ago
      I don’t believe the fed typically marks its assets to market, though I’d be open to a correction on that point. Typically they just roll off the balance sheet by letting assets mature and not re purchasing. They are indeed trying to shrink their balance sheet, but at the volumes they are working at, the entirety of SVBs assets amount to a few months of the fed’s current volumes.
tripletao 4y ago
It doesn't matter whether the bonds are sold now or held to maturity; the loss is exactly the same either way. For a simple example, let's say interest rates are independent of time to maturity and initially 2%, and we purchase a bond that pays $1000 in ten years. That will cost us 1000/(1.02^10) = $820. After two years, that bond now has FMV of 1000/(1.02^8) = $853. But then interest rates increase to 4%, so its FMV drops to 1000/(1.04^8) = $731. If we sold today at the FMV then we'd realize an $89 loss from our purchase price. That's neither better nor worse than holding to maturity, though--that's what makes it the FMV. In the case where we sell, we'd get $731 now, but we could reinvest it at 4%. After the remaining eight years, that would give us 731*(1.04^8) = $1000, exactly the same as if we'd held. HTM accounting treats the two cases as different, but that's an arbitrary regulatory decision, untethered from any economic reality. It has no meaning outside that narrow compliance purpose. The SVB's decision to treat that accounting fiction as if it were economically meaningful appears to be a major part of how they blew themselves up.

anonuser123456 4y ago

There is a legitimate issue beyond “but Capitalism” here. Banks that may be otherwise solvent may become insolvent because of a domino risk of bank runs. Probably the right thing to do is forced equity dilution of a bank experiencing a run. That is, the Fed buys senior equity in the bank and the injection pays for short term losses. The equity injection guarantee alone would likely be enough to stop the contagion and calm markets.

dragontamer 4y ago
So 15 years after 2008 and TARP, our solution is to reach for the most extreme tools available to us yet again? I thought "TARP" / equity injections into banks was a "never again" kinda deal. With Dodd-Frank regulations being passed back then to try to stop these things from being regular. We can't just buyout every bank that collapses. --------- At a minimum, I want to see major banks (similar to AIG) teetering on the brink before we reach for those tools again. This absolutely should not, and cannot, be our main way forward whenever a banking issue arises.
- sidewndr46 4y ago
  It was in fact a "one time" thing done to save the banks. I have not even reached 40 years of age but have lived through somehow 4 "once in a lifetime" economic events. Perhaps economists believe that the human lifespan is only a few years?
Nifty3929 4y ago
I like this idea, but how would the correct share price be established? It must be conservatively low to avoid taxpayer burden. I’d also insist that the govt/fdic must sell their shares on the open market with 30 days, even at a loss.
louloulou 4y ago
> Banks that may be otherwise solvent may become insolvent because of a domino risk of bank runs. That to me implies the bank was never solvent in the first place. You could have easily created a bank that is always solvent, see the case of The Narrow Bank, but the Fed wouldn't allow it.

thephyber 4y ago

> why should taxpayers cover their losses Most likely there are no losses so long as the assets don’t need to be sold in a fire sale. The bank just needs liquidity.

bedhead 4y ago

In what bizarro world should holding cash in a perfectly legitimate bank to earn a negligible interest rate be considered "taking a financial risk" on par with like buying crypto or something???

swatcoder 4y ago
That bizzaro world of deposits bearing risk is the one we’ve all been knowingly living in for the entire history of banking. The FDIC is a modern intervention that protects most personal and small business accounts from needing to consider that risk. Clearly, some people who grew up in the shadow of that insurance protection failed to learn about this “bizarro” world that they lived in and made uninformed choices when they suddenly came into money. But the world never changed, just the naiveté of the people making deposits.
Ekaros 4y ago
So they are earning an interest? As long as that is above 0 and not negative they should expect that some gambling is going on. After all there is no risk free investment.
- flandish 4y ago
  “Interest” is not the same as “risk with investment.” You don’t open a savings acct and get told “you could lose this money.” You’re given a sold-to-you contract from the bank for a specific rate of return for the privilege of them being allowed to hold and work with your money. If one chooses to dep >250k - that’s on them.

pgwhalen 4y ago

Because there is incredible social utility in having the most basic form of money (bank deposits) actually retain its value without depositors having to think too hard about it.