Defending our Future in the Financial System

Investors and regulators are frequently cautioned that rapid growth in banking can be a sign of trouble.  With most of their incoming cash protected by public guarantees like deposit insurance, banks can grow by taking on more risk without as much sensitivity to deposit costs as they would if the public safety net were not in place.

For example, the Office of the Comptroller of the Currency (a bank regulator) produces “An Examiner’s Guide to Problem Bank Identification, Rehabilitation, and Resolution.â€�   In listing six ‘red flags,’ the guide’s first red flag, front and center, is ‘Rapid Growth and Aggressive Growth Strategies.’  This section includes: Read more È

The Law Checks Tyranny, but Law can also become a Tool of Tyranny

When you and I write checks, we tend to pay up if the check goes through despite an insufficient balance.  In 2008, the Federal Deposit Insurance Corporation released a study of overdraft fees charged to bank consumers.  This study found that overdraft fees averaged close to $27, which amounted to a huge effective interest rate on the credit extended when compared to the amount overdrawn (one estimate drawn from this study called it over 3000%).   And a more recent study, released in early 2011 from the Pew Charitable Trusts, found that the average overdraft fee came to $35, with total overdraft fee revenue for banks of $39 billion, up from $20 billion in 2000.

You and I use banks when we pay each other money.  Banks pay each other money, too.  They use private and public ‘wholesale’ or interbank payment systems.  This is a dry but fascinating area of research, given the public policy and risk management issues and the large dollar amounts involved. 

Many people immediately associate the Fed with monetary policy, and a smaller subset of the population understands that the central bank also performs a ‘lender of last result function’ along with supervisory and regulatory roles.  But the Fed’s payment system responsibilities are another leg of the stool, and an important one.  For example, the Federal Reserve’s “Fedwire� wire transfer system moves over one trillion dollars every day among banks with access to it.

The Federal Reserve frequently refers to Fedwire as an efficient payment system.  It is certainly popular, and ‘efficient’ from the point of view of the users, but whether it is efficient when it comes to the general welfare is another matter.  In turn, the Federal Reserve’s pricing of this service raises some questions about the meaning of the rule of law. Read more È