College of Business study finds bank law changes could save US billions

The solutions would involve tougher regulations to prevent banks from failing.


FAU’s College of Business on the Boca Raton campus. Photo courtesy of Wikimedia Commons.

Tyler Gidseg and Ross Mellman

Do you know what happens when banks mess up their finances? You pay for their mistakes. Their problems become your problems. When they mishandle money, that means it will most likely be coming out of your taxes.      

FAU’s College of Business released a study that suggests billions of dollars could be saved through tougher economic regulations imposed on failing financial institutions.

The study was conducted by Rebel A. Cole, a professor at FAU’s College of Business and Laurence J. White, a professor of economics at New York University’s Stern School of Business. They analyzed data from 2007-14 of 433 failed banks and 77 savings institutions — which specialize in real estate funding.

“We found regulators were not closing banks in a timely fashion based upon the bank’s publicly available reported financial condition,” Cole said.

The problem

Stricter legislation on the closure of insolvent banks — banks that can’t pay back their depositors — has the potential to revamp an archaic closure process that has become responsible for ungainly wasteful spending.

A government entity called the Federal Depository Insurance Corporation (FDIC) protects customers at banks from losing their money in the event that the bank closes.

Essentially, when the FDIC gives massive payouts to close and re-open banks, the money used comes directly from your taxes. The current regulations forced poorly timed bank closures, which has led to an increasing amount of taxpayer money being spent during the closure and recovery process.

The professors found that the FDIC estimated that $77.5 billion was spent to close banking institutions during the seven-year period.

This massive expenditure was largely attributed to their discovery that regulators were not closing the banks in a time sufficient matter, which subsequently led to the huge closing costs.

This delay in closure is referred to as “regulatory forbearance.” When a bank is in danger of default, regulators will postpone closure and implement this tactic in the hopes that a bank will recover. Although, often times this tactic fails and ends up increasing total closing costs and incurring more loss to the FDIC.

The solution

Both professors concluded that the FDIC needs to have significantly stricter policies to reduce excess losses and close banks sooner.

In 1991, Congress passed the FDIC Improvement Act. This provision gave United States regulators the power to declare receivership when banks became insolvent. This means that they would step in to conduct “prompt corrective action” to get the institute back to normal operating levels.

The outcome of passing that legislation resulted in saving a myriad of banks while losing very few banking institutions and saved millions.

A bill named the “Financial Choice Act of 2017,” which has passed the House of Representatives, will streamline the current process and do away with certain provisions to the system that were deemed ineffective. This includes repealing the Dodd-Frank Wall Street Act, a law responsible for driving small business costs up 15 percent.

What to take away

The study’s results show how important it is to maintain financial responsibility. Even long-standing institutions such as banks can make critical mistakes.

Don’t wait — the time is now for you to do your due diligence and manage your money in a parsimonious, frugal manner so that you too don’t wind up with unmanageable debt.        

Tyler Gidseg is a contributing writer with the University Press. For information regarding this or other stories, email [email protected].

Ross Mellman is a contributing writer with the University Press. For information regarding this or other stories, email [email protected].