Federal deposit insurance has come to the front burner as a critical domestic issue during the savings and loan cleanup, with the specter of a follow-on wave of commercial bank failures looming.

Central to the understanding of this debate is what deposit insurance really is and who benefits from it.Federal deposit insurance was not created for the purpose of insuring or "bailing out" bankrupt banks and savings and loans. When a bank or an S&L fails, the institution is not bailed out. In fact, stockholders lose out. Owners and managers are kicked out. They walk away with nothing.

The sole beneficiary of federal deposit insurance is the individual depositor whose savings are backed by the full faith and credit of the United States government to $100,000 per account.

Some theoreticians argue that in a free market economy the government should not be in the business of protecting depositors; that depositors ought to fend for themselves and determine on their own the financial health of an institution before making a deposit.

That was the prevailing theory before 1929 and the subsequent Depression when hundreds of banks failed. Individual and family savings - life savings in many cases - were wiped out virtually overnight.

Today, we see none of that sort of personal tragedy, and that is due entirely to federal deposit insurance. Massive and simultaneous runs on financial institutions are a thing of the past, and federal deposit insurance is the reason for it.

What are some of the proposals for change?

One would reduce the level of insurance coverage from the current $100,000 to, say, $75,000 or $50,000. Either figure may seem like a lot to most people, but are they really?

Ask the widow who has sold the family home, collected on her husband's small insurance policy and, combining these proceeds with a retirement savings, needs a secure place for safekeeping those funds. Clearly, an individual approaching retirement years with $100,000 in the bank earning interest at the rate of $8,000 a year is not "rich."

Another proposal would limit the number of insured accounts an individual could hold. Imagine the record-keeping requirements that would be imposed on institutions, and imagine the restriction on savings options that suddenly confront individuals.

Others have suggested having the individual states or private insurance companies write insurance on deposits. That was tried before the federal system was created in the 1930s, and two states - Ohio and Maryland - recently demonstrated convincingly that states can't handle runs and depositors either lose or have to wait years for their money.

Some advocates of privatizing deposit insurance would have banks insure each other, collecting insurance premiums based on risk.

But if a bank is going to insure its neighbor, that bank is going to want access to the other bank's books. Does Macy's tell Gimbels? This carries serious antitrust implications.

Furthermore, some bankers have not been especially skilled at assessing risk. Can you imagine how insufficiently low the premiums would have been when the major banks were confidently making loans to the Third World in the firm belief they would actually collect on those loans?

It boils down to this: The business of insuring depositors is too big for the private sector to handle. The best protection for the federal government against losses through its insurance fund is tough regulation and supervision of financial institutions, coupled with meaningful capital requirements.

(Fred Webber is president of the U.S. League of Savings Institutions in Washington, D.C.)