- Regulation Q (1933) barred interest on demand deposits and let the Fed cap rates on savings and time deposits.
- As market rates rose in the 1960s, the caps became binding, driving disintermediation, mortgage credit stress (notably 1966), and workaround products.
- DIDMCA (1980) and Garn-St. Germain (1982) dismantled most ceilings by 1986 and introduced money-market deposit accounts.
- Dodd-Frank fully repealed the remaining ban in 2011, permitting banks to pay interest on checking accounts.
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Interest rate controls under Regulation Q were a key feature of U.S. banking regulation for almost eight decades. Instituted under the Banking Act of 1933, Regulation Q initially served to limit competition among banks by prohibiting interest on demand deposits and placing ceilings on savings and time deposits.
The regime worked fairly uncontroversially until the 1960s, when market interest rates (e.g. Treasury bills) rose significantly, exceeding the caps set under Regulation Q. Banks and thrifts could not compete for deposits, leading to disintermediation, liquidity stresses, and even a credit crunch in mortgage markets in 1966. Regulatory responses included raising the ceilings and extending Regulation Q to savings and loan associations and savings banks.
Regulatory reform in the late 1970s and early 1980s dismantled most of Regulation Q. The Depository Institutions Deregulation and Monetary Control Act (DIDMCA) of 1980 legislated a six‐year phase-out of interest-rate caps other than the demand deposit prohibition, culminating March 31, 1986. Garn-St. Germain Act further accelerated change by creating money market deposit accounts (MMDAs) in 1982.
The final vestige—prohibition on paying interest on demand deposits—persisted until 2011. Section 627 of the Dodd-Frank Act repealed Section 19(i) of the Federal Reserve Act, eliminating Regulation Q in full effective July 21, 2011. From that date forward, all deposit types were allowed, but not required, to bear interest.
Strategic implications: The removal of interest rate restrictions allowed banks to compete more freely for deposits, but also exposed smaller banks and thrifts to competitive pressure from larger institutions offering higher interest rates and products like MMDAs. It likely increased funding costs industry-wide and forced institutions to adapt in terms of product offerings, pricing, and liquidity management. The regulation’s legacy highlights how regulatory distortions under-price competition risk creating significant market inefficiencies and systemic risk.
Open questions: What lasting effects—positive or negative—did deregulating interest rate ceilings have on banking sector profitability and risk profile? Did smaller banks face disproportionate strain due to higher deposit costs post-2011? How did the repeal impact the structure and competitiveness of transactional vs savings deposit growth? And what can modern rate-ceilings or deposit insurance trade-offs teach in environments of rising rates?
Supporting Notes
- Regulation Q, under the Banking Act of 1933, prohibited interest on demand deposits and required the Fed to cap rates on savings and time deposits.
- By 1966, the U.S. Treasury bill rate neared 5 %, while maximum savings deposit rates remained at 2½ %, creating pressure on banks unable to attract deposits.
- The Depository Institutions Deregulation and Monetary Control Act of 1980 mandated that interest rate ceilings (other than the demand prohibition) be phased out over six years, culminating in full elimination by March 31, 1986.
- The Garn-St. Germain Act of 1982 authorized money market deposit accounts that immediately paid market rates and broadened asset diversification for thrifts.
- The Dodd-Frank Act’s Section 627 repealed Section 19(i) of the Federal Reserve Act, which eliminated interest payments on demand deposits, effective July 21, 2011.
- Regulation Q’s prohibitions led to innovations and workarounds: banks offered implicit interest via services, sweep accounts, “free” goods, and deploy NOW accounts; nonbanks like money market mutual funds attracted deposits by offering market‐rates on liquid investments.