Confessions Of A Gold Analyst: Fear Mongering About Our Banking System (Part 1)

As we head deeper and deeper into this correction in the gold market, I am seeing more and more fear mongering in the media, which suggests to people that they must buy gold now.  Specifically, I have seen so much misinformation about our banking system that I felt compelled to write an article on the matter so that people can make informed decisions about how to protect themselves rather than be scared into buying gold for the wrong reasons. 

I want to preface this article by noting that this is not meant as a legal treatise on the American banking system.  There are many federal and state laws to consider before one can provide a definitive basis upon which an investor can rely.  That is not what this article will present. 

Rather, I would like to address the significant misconceptions which have been disseminated, mostly for the purpose of fear mongering, to suggest investors buy gold immediately. So, while I am not saying that gold should not be viewed as a strong buying opportunity over the next year (because I think everyone should be buying at the next big drop), I am saying that your investment decision should not be based upon lies and misconceptions.

The issues I will be covering in this two part article include:

• What you need to understand about your bank
• What you need to consider about the FDIC insurance backstop
• How does Dodd/Frank affect your bank after Cyprus?
• What does gold have to do with all this?

What you need to understand about your bank

First, let’s start with the proposition that most Americans utilize bank accounts for the purpose of commercial expediency.   We use them to pay our bills, as well as a depository for our excess funds.  But, what most people do not understand is that when we give our money to the banks via deposits, we are actually giving that bank a loan, as we become unsecured creditors of the bank. 

Yes, that money we place into deposits is actually a loan to the bank, and there is no security that the bank provides to us that such deposits will ever be paid back.  It is no different than when we loan money to an individual, and then receive interest for the loan we provide.  The main difference is that you likely know more about the financial stability of the person to whom you loan your money than the bank to whom you loan your money in the form of a deposit.

So, while many believe that they can simply walk into the bank and demand their money at any point in time, this is simply not the case.  If the bank should run into financial difficulties and default, you will stand in line with the rest of the bank creditors to receive pennies on the dollar through the bankruptcy process. 

What you need to consider about the FDIC insurance backstop

Now, many of you are now saying to yourselves that this is not such a big issue to most American’s since the FDIC guarantees bank deposits up to $250,000 per depositor, per insured bank.  So, of course, most Americans believe that their bank deposits are really safe since the FDIC is backstopping their unsecured status.  

While this belief is reasonable when individual banks run into problems due to extenuating circumstances which may cause relatively small defaults across the system, it is not a reasonable belief during times of stress on the entire system itself.

Consider that in 2009, as we were experiencing a tremendous amount of stress on the banking system as a whole, the FDIC Insurance Fund fell into a deficit of almost $21 billion.   Yes, you read that right.  The supposed “backstop” had a massive deficit.  So, one has to consider how much you can rely upon the FDIC if we should see an even worse systemic break down than the one seen in 2008.

To be continued

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