Deposit insurance is a measure that is put in place in many countries, which protects bank deposits in the event of a bank failure. The purpose of deposit insurance is to maintain the stability of a country’s entire financial system in the event that bank failures trigger widespread panic and cause a “run” on the banking system, as depositors rush to withdraw money from their bank or banks. By insuring deposits, policy makers hope to boost consumer confidence that their money is safe and prevent such a scenario, which could have even more widespread and dire consequences than the initial bank failure would.
The reason why deposit insurance is such an important component of financial system stability is that, in our banking environment, banks are allowed to lend or otherwise use the money that is on deposit at their institution. When you deposit money in the bank in a savings or CD account, all of that money is not sitting in the bank at one time. It is being lent out to other customers, traded on the stock market, or otherwise used to generate the best rate of interest. Banks are allowed to do this while keeping a fraction of their reserve on hand for withdrawals. This practice is called fractional reserve banking.
In the United States, deposit insurance on traditional bank accounts is provided by the FDIC (Federal Deposit Insurance Corporation). Deposits at credit unions are insured by the NCUA (National Credit Union Administration. Both of these entities are independent federal agencies. Deposit insurance is typically run by the government, or at least established by the government. Some countries offer completely private deposit insurance, but in general, you can expect deposit insurance to be backed by assets held in the country’s central bank. The International Association of Deposit Insurers (IADI), is an international organization established to promote cooperation and contact between deposit insurers from different countries.
The purpose of deposit insurance is to protect those less financially sophisticated banking customers, and promote the stability of the economy in general. To find out if your deposits are insured, contact your bank or look for the offical FDIC logo in your bank’s window.