The economy is steadily improving with abundant job openings, increased confidence among consumers and businesses, and stabilization of inflation and interest rates.

Overall, this creates a very positive environment for banks, as indicated by a growing FDIC insurance fund and only two bank failures so far in 2024 among more than 4,500 financial institutions. The banking sector reported a combined net income of $65.4 billion for the quarter ending September 30, the latest figures available, with nearly 93% of banks operating profitably.

However, Martin Gruenberg, who will step down as chairman of the Federal Deposit Insurance Corporation (FDIC) at the end of President Biden’s term in January—paving the way for a new leader appointed by Donald Trump—believes caution is necessary. Gruenberg has faced criticism for complaints regarding inappropriate workplace conduct within the FDIC.

In a speech on January 14 at the Brookings Institution, Gruenberg reflected on the last three significant banking crises over the past fifty years, arguing that many of the same conditions that led to turmoil in the past may arise again.

The initial crisis involved numerous bank and thrift failures during the early 1980s. This was followed by the mortgage crisis, which resulted in more bank collapses and plunged the economy into a severe recession from 2008 to 2010. Most recently, three major regional banks, including Silicon Valley Bank, saw significant failures.

“I find it remarkable how many similarities exist among these events, despite the different circumstances and particulars,” he remarked.

The Increasing and Concerning Influence of Nonbanks

Gruenberg pointed out several alarming trends, such as the risks associated with interest rates, liquidity, excessive borrowing, insufficient capital, rapid growth of certain banks, dependency on large amounts of uninsured deposits, and new financial products that lack a clear understanding.

Many of these concerns continue to persist today, particularly with financial institutions that are not classified as banks and thus evade regulatory oversight, resulting in reduced transparency and monitoring. Gruenberg noted that current risks are amplified since today’s largest banks are larger, more complex, and more interconnected than ever before.

For customers and especially those holding deposits in banks, a significant point from his discussion is the rising impact of nonbank financial entities. According to the Financial Stability Board, nonbanks had $20.5 trillion in assets in the U.S., while banks held $23.7 trillion at that time.

Included in this nonbank category are stock and bond mutual funds, money-market mutual funds, hedge funds, insurance companies, and nonbank lenders, many of which have complicated connections to traditional banks.

Potential risks exist because few investors recognize that a stock fund does not offer the same protections as a bank deposit account, although distinctions can be less clear, particularly with money-market mutual funds versus money-market deposit accounts at banks. Therefore, it’s crucial to comprehend the financial products you invest in.

The two banks that failed in 2024 were Republic First Bank in Pennsylvania and First National Bank of Lindsay, Oklahoma, while one credit union, Alliance Credit Union of Florida, also went under last year.

Should the Limit on Deposit Insurance Be Increased?

During his address, Gruenberg raised the issue of whether the FDIC’s insurance limits are sufficient. The fund currently insures bank deposits at a maximum of $250,000 per depositor per institution (similar coverage exists for credit unions). This limit was increased from $100,000 in 2008, but Gruenberg suggested it may need another rise.

While most individual consumers are unlikely to exceed this limit—especially as they can spread their deposits over several banks—business customers may easily surpass the $250,000 mark, particularly for payroll-related accounts, Gruenberg explained.

The downfall of Silicon Valley Bank was partly due to its high number of uninsured depositors, who quickly withdrew their funds as instability emerged, with roughly 90% of the bank’s deposits being uninsured at that moment.

Despite the recent concerns, the amount of uninsured deposits is once again increasing. The FDIC estimates these deposits now exceed $7 trillion, making up over 40% of all banking deposits.

Gruenberg also discussed the potential for providing universal insurance coverage for all deposits, though he deemed this less practical due to the significantly higher costs it would impose on banks that contribute to the FDIC’s insurance fund.

When Brookings senior fellow Aaron Klein inquired what worried him most, Gruenberg identified two primary issues. One is the risk of an unexpected shock, such as a sudden rise in interest rates, which could disrupt the economy and the banking sector. The other concern is the expansion of nonbanks and the increasing prevalence of uninsured deposits at conventional banks.

“In light of the relatively stable state of the banking sector, we must not fall into a false sense of security,” Gruenberg cautioned. “I worry that we tend to forget past lessons too easily.”

Contact the author at russ.wiles@arizonarepublic.com.