The Implicit Costs of Government Deposit Insurance

Most people believe that the benefits of deposit insurance provided by the Federal Deposit Insurance Corporation (FDIC) clearly exceed the costs. However, a growing literature suggests that the benefits of FDIC insurance are overstated while the costs are understated. We add to this literature by considering the implicit costs of government-provided deposit insurance. Specifically, we consider the costs arising from (1) an implicit taxpayer backstop and (2) suboptimal pricing. The implicit costs of government-provided deposit insurance are real economic costs borne by taxpayers, borrowers, lenders, and counterparties. Since such costs are routinely omitted from traditional cost-benefit analysis, most studies of the FDIC tend to be biased in favor of government-provided deposit insurance.