House Panel Rejects Bush Plan to Limit Deposit Insurance

In the first setback to the Bush Administration’s massive effort to overhaul the nation’s banking laws, a House subcommittee Tuesday narrowly defeated a plan to limit bank deposit insurance coverage for millions of affluent Americans.

After intense lobbying by retirees and small rural banks, the House Banking subcommittee on financial institutions rejected the White House plan to limit deposit insurance coverage to $100,000 per individual per bank. The vote was 18-17.

Affluent customers now can have as many federally insured accounts as they want at the same bank, as long as they are divided into accounts of less than $100,000. Moreover, when large federally insured banks fail, the Federal Deposit Insurance Corp. often chooses to go even further, paying off all deposits no matter how large in order to avoid a financial panic.

The Administration’s loss came despite a last-minute lobbying effort Tuesday morning by Treasury Secretary Nicholas F. Brady, who personally urged Republicans on the subcommittee to support the White House.

With Congress just beginning to deal with the Bush bank reform package, the Administration wanted to avoid an early defeat that might slow the progress of other aspects of the reform package over the coming weeks.

Last week, the House subcommittee passed an emergency plan to refinance the deposit insurance fund, which has been severely depleted by the banking crisis. But Tuesday’s action marked the first vote in Congress on the broader Bush effort to reform the banking system.

On Thursday, the subcommittee is scheduled to begin to vote on Bush proposals to give the banking industry broader powers in order to compete more effectively. The Senate has not yet begun work on bank reform.

“The Administration wanted very much to have a victory since this was the first vote out of the box,” said Ken Guenther, executive director of the Independent Bankers Assn., a trade group for small banks that fought the deposit insurance restrictions.

But retirees, led by the American Assn. of Retired Persons, were worried that senior citizens who have built up lifelong savings into large accounts that they don’t monitor closely might be hurt by the measure and worked hard to defeat it.

The AARP joined forces with Guenther’s organization, which opposed the Bush plan out of fear that tighter insurance limits would give large customers the impression that their funds were safer in a large bank.

Rep. Carroll Hubbard Jr. (D.-Ky.), who sponsored the amendment to the Administration’s reform package that effectively killed the White House’s deposit insurance limits, warned that imposing new restrictions on deposit insurance in the midst of a banking crisis could lead to a series of bank runs by panicked customers.

“There likely could be bank runs tomorrow if the headlines read, ‘Banking Panel Cuts Deposit Insurance,’ ” Hubbard told the subcommittee. “My aunt in Kentucky is already keeping her money in a canning jar because she doesn’t want to have her money in a bank that might fail. This is not the best time to risk a large flight of capital in our banking system.”

But others on the panel who supported the Bush plan argued that the current law imposes no real limits on deposit insurance coverage and that the White House proposal would not mean any new sacrifices for American consumers.

Under the Bush proposal, individuals with more than $100,000 in the bank could still receive full coverage simply by shifting a portion of their savings to a second bank. In addition, they would be able to keep a second $100,000 account in the same bank for retirement funds and could keep separate insured accounts under various family member’s names.

“This (the Bush plan) is the most modest limits on deposit insurance that we could manage,” insisted Rep. Jim Leach (R.-Iowa), an influential younger member of the banking committee. “If we can’t cut it back a smidgen, then Congress doesn’t have any will.”

In other action, the subcommittee did not go as far as the Administration wanted in restricting bank deposits sold through brokerage firms. The Administration wanted to prohibit brokered deposits but allow regulators to waive the rule for specific banks.

The panel adopted an amendment that would permit healthy institutions to continue to take such deposits. It would prohibit weak institutions from accepting them and would prohibit banks from offering above-average interest rates to attract them. In the past, weak institutions have financed reckless growth by offering higher deposit rates than sound banks.