MIT Golub Center for Finance and Policy
Public Policy
Too Big vs. Too Frail
By
Summary
When deposits are not completely insured, the presence of too big-to-fail (TBTF) banks alters the competitive landscape for depositors’ funds, resulting in financial fragility and real economic costs. Tracking the response of depositors who lost insurance coverage during the financial crisis demonstrates this starkly. Uninsured depositors at TBTF institutions are less likely to withdraw funding and depositors with uninsured balances at non-systemic banks appear to move their entire account to a TBTF institution, rather than just the uninsured portion of their funds. This funding shock to non-systemic banks hinders their ability to provide credit to the economy. Current regulations do not adequately address these risks: TBTF looms large and assumed deposit run-off rates under Basel III are too low to secure the funding of non-systemic banks during periods of distress.
