Carrot and Stick: Federal Deposit Insurance Is a Trap for Community Banks

Norbert Michel

Most members of Congress, understandably, want to ensure that even people living outside of the biggest US cities have access to banking services. They see the “big banks” as a threat, especially amid the banking industry’s long-term trend toward consolidation. In fact, politicians from both parties regularly express concern about the small number of new bank formations since 2010. They also worry that people are leaving smaller banks because they believe larger banks will always be bailed out in times of trouble. (Incidentally, that’s not what happened during the 2023 bank failures.) 

While many members of Congress have worked to fix these problems by reducing burdensome regulations for the smallest banks, regulatory costs remain high. Aside from the additional expenses associated with the 2010 Dodd-Frank Act, compliance with the 1970 Bank Secrecy Act has been especially costly for community banks. (Bank Secrecy Act regulations have even driven the growing phenomenon known as debanking.)

Other members of Congress have sought to bolster community banks by increasing the limits on deposit insurance provided by the Federal Deposit Insurance Corporation (FDIC). While this approach may seem reasonable, especially since small rural banks were the main supporters of creating federal deposit insurance in the first place, many community bankers have come out against the latest efforts to raise the FDIC insurance caps. Increasingly, they’re coming to grips with the fact that FDIC insurance was the original sin in the banking sector. Over time, the regulatory burden that came with federal backing proved more costly than the protection it provided.

States now require banks—even state-chartered banks—to have FDIC insurance before accepting deposits, and banks that provide customers with FDIC insurance opt themselves into the federal regulatory framework. (Having the federal government pick up the tab for bank failures gets states off the hook. For good.) For decades, Congress has used FDIC insurance to justify increased federal involvement in banking, and those regulations are now a complete nightmare. 

Simply put, FDIC insurance is a main reason banks are regulated to death. 

For whatever reason, the Trump administration has been fixated on raising the FDIC insurance cap, a policy directly at odds with its efforts to reduce regulation for community banks. In Congress, this effort started out with an attempt to raise the FDIC cap to $20 million. Failing to gain enough support, that number fell to $10 million. Now, members of both the House and the Senate are trying to force the FDIC itself to raise the cap (through official rulemaking) to no higher than $5 million. 

Aside from the precise figure, raising the cap is a solution in search of a problem, and Congress should let this idea die. Main Street depositors do not benefit from raising the cap because it is already so much higher than what even the typical wealthy American keeps in a bank account. Moreover, many of the problems making Congress nervous about the banking industry are longer-term trends, driven by regulation and technology. If anything, FDIC insurance has worsened the regulatory problem and slowed the rate at which banks can innovate. Raising the cap won’t fix these problems. 

Since the 1980s, banks have become “fewer in number and larger in size,” with the total falling steadily from its peak of more than 14,000 banks. (This figure represents FDIC-insured institutions.) By 2005, there were approximately 9,000 banks, and by 2020, the total was down to just 5,000. Between 2010 and 2020, only 48 new commercial bank charters were issued.

During this time, the number of bank branches followed a different pattern. Starting at roughly 39,000 branches in 1980, the figure peaked at about 82,500 in 2009. After the 2009 financial crisis, the number of branches started to decline, falling to a 2025 total of approximately 69,000. (As these changes occurred, the US population rose from 227.2 million in 1980 to approximately 340 million in 2025.)

There are many reasons for these changes, including the 1994 legalization of interstate bank branching (the Riegle-Neal Act) and technological improvements that enabled mobile and online banking. Regardless of the reasons, it makes perfect sense that these long-term trends—fewer banks but with more assets, along with fewer branches—tend to make people (especially politicians) nervous.

The banking industry faces many challenges, including consolidation, declining new bank formations, and branch closures in rural communities. These issues deserve serious solutions. But raising the FDIC insurance cap is not one of them. Raising the cap would deepen federal involvement in banking, pile on more regulations, and do nothing to address the underlying forces reshaping the industry. 

If Congress truly wants to help community banks thrive, they’ll trust that competitive markets—not government guarantees—are the best way to deliver banking services to Americans, wherever they live. They’ll roll back the regulatory burdens that are strangling banks and get the federal government out of the business of picking winners and losers.