Federal Deposit Insurance Corporation (FDIC)

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FEDERAL DEPOSIT INSURANCE CORPORATION (FDIC)

They became, unwittingly, the most powerful image of the Great Depression, standing nervously in long lines, clutching their deposit books, hoping against hope to get inside before the bank closed its doors, leaving them penniless. Today, their visages survive only in the memories of America's "greatest generation" or in the imaginations of television viewers watching another holiday season broadcast of Frank Capra's 1946 film It's a Wonderful Life. The long lines of nervous bank depositors disappeared, thanks to the Federal Deposit Insurance Corporation (FDIC), arguably the New Deal's most enduring and least controversial legacy. Knowing that the FDIC, an agency of the federal government, would guarantee all individual bank deposits up to a certain maximum, anxious depositors no longer needed to demand cash at teller windows, and bankers no longer had to engage in fire sale liquidations of assets to satisfy them. In doing so, the Federal Deposit Insurance Corporation ended the gravest threat ever to financial instability in the United States.

During the 1920s and early 1930s, the American banking system underwent a financial meltdown because of undercapitalization, real estate speculation, the agricultural depression, problems on Wall Street, and overcompetition in some markets. Between 1918 and 1933, more than thirty thousand financial institutions—banks, savings banks, savings and loan associations, credit unions, and insurance companies—declared insolvency. The problem became so severe in the spring of 1933 that recently inaugurated President Franklin D. Roosevelt had to declare a national bank holiday, closing every bank in the United States and scrambling for short-term and long-term solutions to the problem.

During the end stage of the Herbert Hoover administration, when the banking crisis was reaching catastrophic proportions, Congressman Henry Steagall, a Democrat from Alabama, proposed the establishment of a federal agency to insure individual bank accounts. Such an agency, Steagall argued, would help preserve bank capital and prevent another crisis. If individual depositors knew that the government guaranteed their deposits, they would be less likely to make a so-called run on the bank to empty their accounts. Bankers would then be saved from the need to generate cash by calling in loans and selling stocks, bonds, and real estate, often at highly deflated prices, which badly eroded their capital reserves and permanently weakened them. Most private bankers, however, bitterly opposed the measure, and President Hoover was not inclined to undertake such a vast expansion of federal authority.

By March 1933, however, with Hoover out of the White House, the opposition of private bankers melted away. The nation was caught in an unprecedented financial crisis, and the private sector possessed neither the resources nor the will to address it. Congressman Steagall attached his proposal for a federal agency to guarantee bank deposits to what later became known as the Banking Act of 1933. At first, President Franklin D. Roosevelt opposed the notion of federal deposit insurance, not so much because of any personal philosophical disagreements but because Senator Carter Glass of Virginia, the influential chairman of the Senate Appropriations Committee, worried that federal deposit insurance would concentrate too much power in Washington, D.C. As the legislation was written and debated, however, Glass's opposition waned, and so did the president's.

The measure went through Congress with little opposition, and on June 16, 1933, President Franklin D. Roosevelt signed it into law. The legislation established the Federal Deposit Insurance Corporation (FDIC), which insured individual bank accounts up to $5,000. All national banks had to sign up for FDIC insurance, and all state banks wanting to enroll also had to agree to become part of the Federal Reserve System, requirements that automatically brought more stability to financial markets. The insurance program went into effect on January 1, 1934, financed with $150 million in federal appropriations and premium payments by member banks.

In a matter of weeks, the value of the FDIC became obvious. Americans treated non-FDIC banks like financial pariahs. Bankers had no choice, if they had any hope of surviving and profiting, but to join the FDIC. By the end of 1935, more than 14,400 banks had enrolled for FDIC insurance, and bankers displayed the FDIC sign at every teller's window. Those signs became American icons, proof that every bank displaying one was safe; if it was not, the federal government would make good on the deposit. During 1934, only thirty-two banks failed in the United States, the fewest in a generation. Since then, the American banking system, from the perspective of depositors, has become the safest in the world, thanks largely to the FDIC.