On Tuesday, the FDIC released a Notice of Proposed Rulemaking (NPR) that outlines anticipated revisions to its regulations regarding interest rate restrictions that apply to less than well capitalized insured depository institutions. The proposed rule modifies the methodology by which the national rate and national rate cap are calculated on deposit products and proposes a new methodology for calculation of a local rate.

This follows a December 2018 Advanced Notice of Proposed Rulemaking(ANPR) in which the FDIC sought comments on its brokered deposit regulations and on proposed changes to the methodology used to calculate the national rate. Of the 130 comments on the ANPR, 59 addressed the interest rate restrictions; most of which responded that the current interest rate and rate cap methodology, which is calculated from a formula based on weighted deposits where the weights are the institutions’ number of branches, results in interest rates that are too low.

The proposed rule is the FDIC’s attempt to (1) improve the methodology for calculating the national rate cap and (2) simplify the current local rate cap calculation and process for less than well capitalized institutions.

Methodology for Calculating National Rate and Rate Cap

The national rate cap is currently calculated as a simple average of rates paid by all depository institutions and branches that offer and publish rates for specific products. The national rate is calculated weekly and the rate cap is determined by adding 75 basis points to the national rate. The largest banks with the most branches have a disproportional effect on the national rate, and the current methodology does not account for online-focused banks, which have few or no branches but tend to pay high interest rates. ANPR commenters noted that the current methodology also fails to take into account promotions and cash bonuses related to deposit products.

Under the rule proposed in the NPR, the methodology for calculating the national rate is the weighted average of rates paid by all insured depository institutions on a given deposit product, where the weights are the institution’s market share of domestic deposits (rather than the institution’s number of branches).

The national rate cap, which is the highest rate that a less than well capitalized institution may pay on deposits, would be set to the higher of (1) the rate offered at the 95th percentile of the rates weighted by domestic deposit share, or (2) the proposed national rate plus 75 basis points. The FDIC would compute the national rate and publish rate cap information on a monthly basis.

Process for Establishing a Local Rate Cap

The NPR also suggests a change in the manner that an institution may seek to pay higher than the national rate based on local market conditions. Currently, less than well capitalized institutions may make a case to the FDIC to support a higher rate based on evidence satisfactory to the FDIC that the average rates offered in the institution’s local market for a specific deposit are higher than the national rate. If the evidence is satisfactory to the FDIC, the institution may offer a rate equal to the average for the local market plus 75 basis points.

The proposed rule allows less than well capitalized institutions to provide evidence that a single bank or credit union in its local market offers a rate on a specific deposit product higher than the national rate cap, and, if such evidence is satisfactory to the FDIC, the institution may offer 90 percent of the competing institution’s rate on that specific product.

The methodology proposed in the NPR is an improvement on the current methodology for establishing the national rate, but smaller institutions are still likely to be unsatisfied. Although a shift from number of branches to domestic deposit market share reduces slightly the impact of the largest institutions on the national rate, the largest institutions will still have a disproportionate effect on the national interest rate, because they hold the largest share of deposits. Moreover, the NPR fails to effectively address the impact of internet depositories and listing services within a local market. The ability to offer a rate that is 90 percent of a local competing institution’s rate may not be sufficient given the ability of an internet bank or a bank using a listing service to pressure a local market. We believe the proposed rule should permit insured depository institutions to compete with such products, regardless of geographic location. This is especially true for less than well capitalized institutions subject to the national rate cap that may benefit from and rely on increased deposits as part of a liquidity plan. Further, even following the adoption of the changes, a less than well-capitalized institution would not be allowed to maintain above-market rates on certificates of deposit that would mature. As a result, a bank that becomes less than well capitalized (including an institution that may otherwise be well capitalized, but is subject to a capital provision) may still suffer substantial liquidity pressures, which in turn could result in an otherwise avoidable bank failure.

Comments on the NPR will be accepted for 60 days after publication.