Bad bank policy increases inflation rate volatility. Even worse bank policy causes inflation rates above market interest rates for decades. Savers suffer the consequences.

Without a comprehensive US bank insurance system throughout its history, except for that of the FDIC, Figure 4.3 shows that the US inflation rate was erratic with sharp fluctuations from 1774 to 1873, which marked the beginning of the gold standard. The US bank panics of the late 1880s experienced less inflation volatility until 1914, after which successive wars all coincided with highly volatile inflation rates. After the Balanced Growth and Employment Act of 1978 was passed, US inflation rate volatility decreased from 1983.

As capital markets developed after the civil war, private bank insurance began to shape itself through the clearing house system. After the failure of the Fed to provide similar insurance during the Great Depression, the FDIC was established, and the Fed maintained reserve requirements for banks, while mainly taking the role of financing fiscal deficits during war and crises through additional money creation.

The panic of 2008 revealed US complacency over bank policy. Financial market development saw increasing avoidance of both the deposit premium payment for the FDIC insurance and the reserve requirements of the Fed. Reserves in the Fed of 1 per cent of all commercial bank deposits in 2008 offered little support during the bank panic, and the banks experiencing panic were not covered by the FDIC.

In the good times, after inflation rate targeting took hold in 1983 up until 2008, the Fed entertained a “come as you are” party that left bank insurance policy in tatters. Its 2008 “macroprudential” banking policy launched a “Moonshot”, with the Fed newly hoarding excess reserves in a haphazard attempt at bank insurance policy for those outside the FDIC. As a result of excess reserves mounting up irregularly, rather than all being lent out as in previous history, the Fed temporarily shifted volatility from the inflation rate to capital markets.

This new volatility has been in the ascendant the entire time since the Fed's attempt to establish a bank insurance policy through excess reserves. The consequent capital market volatility affects the whole economy, deserving the “macro” part of the “macroprudential” moniker, but leaving “prudential” questionable at best.