Regulating the Banking Industry ECO 473 – Money & Banking – Dr. D. Foster

 Maintaining depository institution liquidity.  Assuring bank solvency by limiting failures.  Promoting an efficient financial system.  Protecting consumers.

 The Banking Act of 1933 (Glass-Steagall Act): ◦ Created the Federal Deposit Insurance Corporation (FDIC). ◦ Placed interest rate ceilings on checking deposits of commercial banks. ◦ Separated commercial and investment banking. ◦ Branching restrictions.

 Disintermediation in the 1970s.  Depository Institutions Deregulation and Monetary Control Act (DIDMCA): ◦ Six-year phaseout of interest rate ceilings. ◦ Permitted NOW accounts. ◦ Increased FDIC coverage to $100,000.

 The Garn–St. Germain Act of 1982: ◦ Authorized money market deposit accounts. ◦ Increase the DIDMCA limit on consumer loans and commercial paper. ◦ Authorized savings institutions to make commercial real estate loans. ◦ Gave these institutions the power to purchase “unsecured loans,” including low-rated, “junk” bonds. ◦ Gave the FDIC power to permit troubled financial institutions to merge with healthier partners.

 Financial Institutions Reform, Recovery & Enforcement Act (FIRREA)  Financial Institutions Reform, Recovery & Enforcement Act (FIRREA): ◦ Authorized taxpayer funds to cover cost of liquidating failed thrifts. --Insurance wasn’t enough! ◦ Abolished current thrift regulatory structure. --Created Office of Thrift Supervision. --Created the Resolution Trust Corp. to liquidate thrifts. ◦ Moved thrift insurance (FSLIC) into FDIC. ◦ Required insurance fund = 1.25% of insured deposits.

 The moral-hazard problem of deposit insurance  The moral-hazard problem of deposit insurance: ◦ S&L crisis.  Too-big-to-fail policy  Too-big-to-fail policy: ◦ Continental Illinois ◦ Continental Illinois. Continental Illinois Continental Illinois  The FDIC Improvement Act Of 1991  The FDIC Improvement Act Of Allowed for earlier intervention by the FDIC. -- Let FDIC set/change premiums to boost fund. -- Mandated risk-based premium structure.

 Act removes Glass-Steagall restrictions and permits: ◦ Securities firms and insurance companies to own commercial banks. ◦ Banks to underwrite insurance and securities, including shares of stock.

Regulating the Banking Industry ECO 473 – Money & Banking – Dr. D. Foster