STATEMENT OF H. EARL COOK, MEMBER, BOARD OF DIRECTORS, FEDERAL DEPOSIT INSURANCE CORPORATION; ACCOMPANIED BY E. H. CRAMER, CHIEF, DIVISION OF RESEARCH AND STATISTICS, AND L. L. ROBERTSON, ASSISTANT TO THE CHAIRMAN, BOARD OF DIRECTORS, FEDERAL DEPOSIT INSURANCE CORPORATION

Mr. COOK. Mr. Chairman and members of the committee, the opportunity to appear before your committee for the purpose of discussing various aspects of Federal deposit insurance is a source of keen personal satisfaction to me. Your committee is now engaged in an endeavor of profound importance to every citizen of the United States. Its inquiry into the fundamentals of monetary policy and the management of the public debt is monumental in scope. That the committee has found time within its very busy schedule to consider the role of deposit insurance testifies to the thoroughness and comprehensiveness of its work.

The Federal Deposit Insurance Corporation is of fundamental importance to the economic life of the Nation. Its principal purposes are to protect depositors, to maintain the confidence of depositors in banks, to raise standards of bank management, to increase the soundness of the banking system, and to aid in protecting the circulating medium. Although the Corporation was not designed primarily as a tool for implementing credit and monetary policy, by accomplishing its principal purposes it contributes to economic and financial stability and thus serves to further the purposes of the Employment Act of 1946.

A discussion of the reciprocal role of deposit insurance in promoting economic stability and of economic stability in making deposit insurance practicable necessarily centers on depositor confidence and the Corporation's success in creating and maintaining it. Depositor confidence is the vital element in a sound and stable banking system. In analyzing the bases of depositor confidence, the historical approach is most helpful.

Prior to the establishment of the Federal Deposit Insurance Corporation, each bank was dependent upon its own resources and abilities to maintain the confidence of its depositors. To be sure, there were sporadic efforts to bolster depositor confidence by means of State-wide deposit insurance, but these efforts proved unsuccessful largely because the risk was concentrated in relatively small geographical areas. During this era, whenever depositor confidence in the soundness of a bank disappeared, the result always was a competitive struggle among despositors for self-protection. They shifted their funds from bank to bank and they withdraw their deposits in the form of cash in a uiversal self-defeating effort to find a safe place for their money. Public opinion with respect to financial standing is extremely sensitive. Carried by the winds of idle gossip, rumor of financial unsoundness has in the past wrecked many good banks. The annals of banking history are replete with instances of widespread financial disorganization and panic stemming from the failures of banks in these circumstances. Furthermore, banking troubles have brought about financial repercussions which upset the commercial structure of the entire Nation. Property values were destroyed, and the chain of misfortune

led to mass unemployment, evergrowing economic paralysis, destitution, and misery.

The basic facts regarding failures in banking and business for the period 1867-1950 are depicted by the accompanying chart No. 29 prepared by our Division of Research and Statistics. These data have been developed from the various sources of statistical information that are available, including compilations and studies by private agencies as well as public authorities. The red silhouette on the chart is indicative of the rate of failures in banking and the black curve relates to failures in other types of business. Many statistical problems are involved in arranging and presenting these data but it is our judgment that the over-all picture is a fair representation of the historical

facts.

This graphic record explains in vivid terms why members of Congress as well as leaders in banking and business were concerned with finding the solution to the problem of banking instability for almost 50 years prior to the establishment of Federal deposit insurance. The first bill in the long series of proposed legislation for deposit insurance was introduced in the Congress in 1886. Before the present Federal Deposit Insurance Corporation finally came into existence 150 bills were considered by the Congress. The history of this legislation for the guaranty or insurance of bank deposits is discussed at length in part 3 of our 1950 annual report.

As time went on, it became abundantly clear that depositor confidence was the key to the problem of banking instability. Lack of confidence wrecked many sound banks and there was a tendency for the loss of confidence to spread quickly in ever-widening circles.

Mutual causation was recognized as the dynamic element in banking instability. This causation operates through cycles involving loss of depositor confidence in one bank, bank runs, panic, and failure, and then loss of confidence in nearby banks, further runs, panic, and failure, and so forth. The most dramatic illustration of this progressive deterioration of depositor confidence in banking occurred during the 1929-33 business depression which culminated in the total collapse of the banking system. The establishment of the Federal Deposit Insurance Corporation in 1933 signaled a major advance in the direction of banking stability.

Representative PATMAN. What is the correct date of the signing of the bill that made this law effective?

Mr. Cook. The temporary bill was signed, was it, May of 1933? I do not have the date myself.

Representative PATMAN. May 1933?

Mr. Cook. It is my recollection that the bill which provided a temporary plan for $2,500 protection was enacted in 1933. The permanent plan of insurance became effective in 1935; but the original had its inception in May, I think it is, 1933. We can supply you that date, Mr. Chairman.

Representative PATMAN. I wish you would, please.

Mr. CRAMER. The bill was passed in 1933; it went into operation the 1st of January 1934.

Representative PATMAN. That date in May, May 10, seems a little

early.

Mr. CRAMER. No deposits were insured during the year 1933.

Mr. Cook. As I recall, the bill was introduced, the legislation was in the process at that time, but we will supply you with that exact date.

Representative PATMAN. But the first law, you do not know the date it was actually signed?

Mr. Cook. I do not have that date.

Representative PATMAN. I wish you would get it.
Mr. Cook. We can supply that to you, sir.

Representative PATMAN. Very well.

(The information above requested is as follows:)

The original deposit insurance law was a part of the Banking Act of 1933, which was approved and became effective on June 16, 1933. This law established the Federal Deposit Insurance Corporation and provided for deposit insurance to go into effect on January 1, 1934.

Mr. Cook. It created for the first time a Nation-wide mechanism for rebuilding and maintaining depositor confidence.

Functioning within the framework of our American free enterprise dual banking system, the Corporation enlisted the bankers and the State and Federal bank supervisory authorities in a great cooperative effort to provide sound and stable conditions in the banking community. The success of this endeavor is demonstrated by the present stability in the banking structure and the large number of participating banks. All but approximately 1,000 of the 14,700 banks in the United States are now insured.

Depositors in banks that are insured no longer rely solely upon the banks for safety. They know their accounts are protected up to $10,000 by the Federal Deposit Insurance Corporation. As a result, their instincts of self-preservation no longer force them to participate in a stampede of deposit withdrawals whenever there is a rumor that a bank is unsound. This is the fundamental contribution of Federal deposit insurance. While some may dismiss it as wholly psychological, the fact remains that deposit or confidence is an indispensable factor in the economic life of the Nation.

There can be no doubt that the remarkable stability which has characterized banking since 1933 is the result of the profound and widespread confidence engendered in the minds of depositors that their money is safe in the banks. Dramatic evidence of the fundamental change which has taken place in the climate of banking may be seen in two charts which our Division of Research and Statistics has recently prepared. The first is a spot map showing the general pattern of failures in banking over the period 1916-33. That is chart No. 46. Compare this blackened picture with another map, chart No. 47, that shows comparable data for both insured and noninsured banks in a period of corresponding length, that is, 1934-51. In preparing these charts it has been necessary to piece together the information on banking failures and suspensions from the available sources. Reporting, especially in the earlier period, is definitely fragmentary. However, the general impression of widespread failures in the 1916-33 period, and stability in the 1934-51 period, is correct.

Over the entire period since 1933 the Federal Deposit Insurance Corporation has demonstrated that it is possible to preserve the confidence of depositors in their banks and to maintain stability in the entire banking system. There are two principal facets to the Corporation's activities in achieving these objectives. First, the efforts of

supervisory authorities, both State and Federal, as well as of the banks themselves, have been coordinated in the endeavor to maintain sound banking practices. The banking community has been notably free of excessive speculation. Moreover, there has been a continued effort to improve day-to-day banking practices and to strengthen the management and the capital of the individual banks. The second principal facet of the work of the Corporation has been remedial. Both the banking authorities and the bankers have been alert to developments which required immediate attention. The Corporation has acted speedily whenever necessary to give depositors clear and unequivocal assurance that their accounts were protected.

Sometimes it is asserted that the Federal Deposit Insurance Corporation has never actually been tested because it is a creature of fortunate times. Those who advance this view are blinding their eyes to the turbulent years since the establishment of deposit insurance. Within this period the Nation experienced a recovery from the deepest depression of the twentieth century. There occurred a sharp business recession in 1937 and 1938 which was followed by the Second World War and the period of post-war readjustment and rehabilitation. Now we are in the midst of a great national defense effort. Throughout this long, troublesome era, the Federal Deposit Insurance Corporation has adhered to the fundamental principle that depositor confidence in banking is best maintained by acting promptly whenever confidence is threatened in a bank.

Whether the Federal Deposit Insurance Corporation could withstand an economic collapse of the magnitude experienced in 1929-33 is another question frequently raised in discussions of Federal deposit insurance. That question is wholly academic. The characteristics of the 1929-33 catastrophe set it apart as a unique happening in the long history of this great Nation. However, if the purpose of the question is to consider the ability of the Corporation to function successfully in a period of business adversity, then a study of the 1937-38 recession is definitely in point. At that time the preservation of depositor confidence by the Federal Deposit Insurance Corporation was one of the major buttresses protecting our economy against widespread instability and all the attending misfortunes. Throughout the 1937-28 recession and the subsequent period of economic readjustment, the Federal Deposit Insurance Corporation was able to maintain a hard core of depositor confidence in banking.

The results of the Corporation's efforts since 1933 have affirmed the principle that deposit insurance and economic stability are cast in reciprocal roles. Deposit insurance promotes economic stability and economic stability makes deposit insurance practical.

Your committee has expressed an interest in the available data. concerning the withdrawals of large and small deposits, respectively, in precipitating bank failures during the period prior to the establishment of FDIC. For your record, there is attached an exhibit No. 1 presenting the text of a study of the behavior of deposits prior to suspension in a selected group of banks which were suspended in the period 1930-33. This was a Works Progress Administration study which was published in the Federal Reserve Bulletin 13 years ago. The data covered 67 medium-sized banks that failed. The Board of Governors of the Federal Reserve contributed the supervising staff for the project.

This study indicates that the failing banks experienced a drastic reduction in their deposits as a result of the withdrawals of the larger accounts prior to suspension. Thus, the data may be interpreted to suggest that the so-called "silent runs" by big depositors were the primary cause of failure.

Within very broad, outlines the findings of this study of depositor behavior in failing banks are in accord with practical banking experience of 20 years ago. It has long been observed that silent runs on banks by the large depositors always precede the more or less frantic efforts of small depositors to withdraw cash before the failure.

By generalizing the available data and experience, some students of banking have concluded that the depositors who really constitute the element of instability are those with the large and not the small accounts. They conclude, furthermore, that Federal deposit insurance emphasizes unduly the importance of maintaining the confidence of the small depositor. As a corollary, it is contended that depositor confidence cannot be maintained with anything less than complete insurance coverage for all depositors.

This view is not in accord with our analysis and understanding of the facts. Nor was it the view of the Congress when Federal deposit insurance was established. The importance of the silent run as a factor which exhausted the resources of failing banks cannot be emphasized too strongly. However, the crucial question is this: Why was the silent run always the precursor of the final line-up of small depositors in a futile effort to convert their accounts into cash? In our judgment, the silent runs by the large depositors were in anticipation of the final stages of collapse when the small depositors figuratively, and sometimes literally, tore the banks apart.

That the problem of maintaining confidence centers basically on small rather than large depositors is further evidenced by the fact that failures among the large metropolitan "bankers' banks" were rare even in the late 1920's and the early 1930's. Moreover, when the so-called "bankers' banks" experienced difficulty, almost without exception their troubles stemmed from the fact that small customers lined up in the bank lobbies and demanded cash. Had it been possible to maintain the confidence of these depositors the banks would have survived. That, at least, is our judgment.

With reference to the extent of coverage for depositors offered by Federal deposit insurance you will recall that the maximum was increased to $10,000 by the Federal Deposit Insurance Act of 1950. This change, in our judgment, is thoroughly sound. The legislation recognizes that the preservation of depositor confidence is essential for the achievement of stability in banking, and furthermore, that it is the confidence of the small depositor that requires primary consideration.

Full protection is afforded 9812 percent of the accounts under the present Federal deposit insurance law. Accordingly, depositors with large balances need not worry about the prospect that their banks will be undermined by mass withdrawals when small depositors lose confidence. Since that threat has been removed, the large depositors can concentrate attention on such important factors as management and the quality of assets in appraising the soundness of a bank. This makes for stability in the actions of the large depositors.