The FDIC goes Bankrupt
>> Friday, November 27, 2009 –
Economic Indicators,
FDIC,
Recession,
U.S Debt
In one of my earlier articles on 24th October 2009, I had talked about the slump in the FDIC's deposit insurance fund reserve ratio to 0.22. According to the third quarter report by the FDIC, the DIF reserve ratio stands at a negative of 0.16. This effectively means that the FDIC is bankrupt and now it needs Government bailout funds in order to pay the depositors of failed banks registered under the FDIC.
In my opinion, this is a dangerous chain reaction that is going on. The deposits of the failed banks were to be insured by the FDIC. However, it is also bankrupt and now FDIC is insured by the U.S. Government funds. I wonder who will be there to bailout the Government when it goes bankrupt. It is already so in many ways. However, I would leave this as a topic of discussion for some other time.
The chart below gives the FDIC deposit insurance fund reserve ratio till the third quarter of the current fiscal.
Chart Source: FDIC
The ratio has gone down from 1.23 in March 2006 to -0.16 currently. Thus was primairly due to the failure of fifty insured institutions with combined assets of $68.8 billion failed during the third quarter of 2009, the largest number since the second quarter of 1990 when 65 insured institutions failed.
The September 30, 2009, reserve ratio is also the lowest reserve ratio for a combined bank and thrift insurance fund since June 30, 1992, when the ratio was negative 0.20 percent.
However, the FDIC is still not out of trouble yet. There is a growing number of problem institutions as per the third quarter data. As of 30th September 2009, the number of problem institutions have gone up to 552. Problem institutions are typically banks which have a high probability of closing down. These 552 institutions have total assets of USD 346 billion. Thus, in the near future, one can expect the FDIC to keep borrowing from the Government. At the same time, the DIF insured deposit has been going up on a quarterly basis. The number below show the same.
Source:FDIC
It is true that there is no way out of this. If the FDIC does not borrow from the Government then it would not be able to insure the depositors. This in turn would create a panic among the depositors leading to a run on the bank. However, the FDIC had earlier planned to take fees in advance from insured banks in order to replenish their funds. This has not happened and in the end it would be the taxpayers bailing out other taxpayers.
Risk Remains High in the Banking Sector
Loss Provisions Surpass $60 billion for fourth quarter in a row marking the fourth consecutive quarter that industry provisions have exceeded $60 billion. The third quarter total was $11.3 billion (22.2%) higher than a year earlier, but it was $4.8 billion (7.1 percent) less than the amount that insured institutions set aside in the second quarter.
Loan losses remain high as net charge-offs continued to rise, registering a year-over-year increase for an 11th consecutive quarter. Insured institutions charged off $50.8 billion (net) in the quarter, an increase of $22.6 billion (80.5 percent) compared to the third quarter of 2008.
Solution for offsetting the losses
The Fed has already given a solution to the banking system for offsetting these losses from their core banking business. The Fed has been lending money almost free of cost and the banks are speculating with this money in asset classes globally. This has helped them to show profits even when their core business is still in mess. This trend is expected to go on as the losses on loans would not stop immediately. This is one of the major objectives of keeping the Fed Fund rate low for an extended period.
But in my opinion, the Fed will have to increase rates at some point of time to a really high level. I will discuss the reasons for the same in another article.
The Positive - Equity Capital gets a boost
The industry’s total bank equity capital (excluding minority interests in consolidated subsidiaries) increased by
$40.2 billion (2.9 percent) in the third quarter. Most of the increase was a result of appreciation in the values of securities and other investments. The industry’s equity to assets ratio increased from 10.55 percent to 10.90 percent during the quarter.
$40.2 billion (2.9 percent) in the third quarter. Most of the increase was a result of appreciation in the values of securities and other investments. The industry’s equity to assets ratio increased from 10.55 percent to 10.90 percent during the quarter.
Conclusion
The banking sector has gone bust after a period of boom, high speculation and very low lending standards. The sector will take a very long time to get back to a strong footing. During this time, we will see many more bank failures coupled with shrinking of big banks through sale of assets. Also, trading activities would keep the banks going when loan losses are still high.
Banks would however be very reluctant to lend and this would be a major headache for the Fed. In the current banking system, it is debt which creates a majority of the money in the system. When banks are not willing to lend, the Fed would have to keep flooding the system with money in the absence of money growth through debt.
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Interesting Quotes
Banking was conceived in inequity and was born in sin. The bankers own the earth. Take it away from them, but leave them the power to create deposits, and with the flick of the pen they will create enough deposits to buy it back again. However, take it away from them, and all the great fortunes like mine will disappear and they ought to disappear, for this would be a happier and better world to live in. But, if you wish to remain the slaves of bankers and pay the costs of your own slavery, let them continue to create deposits - Lord Josiah Stemp, Former Director of the Bank of England (1937)
It may be laid as a universal rule that a government which attempts more than it ought will perform less - Thomas Babington Macaulay
Interesting Quotes
Banking was conceived in inequity and was born in sin. The bankers own the earth. Take it away from them, but leave them the power to create deposits, and with the flick of the pen they will create enough deposits to buy it back again. However, take it away from them, and all the great fortunes like mine will disappear and they ought to disappear, for this would be a happier and better world to live in. But, if you wish to remain the slaves of bankers and pay the costs of your own slavery, let them continue to create deposits - Lord Josiah Stemp, Former Director of the Bank of England (1937)
It may be laid as a universal rule that a government which attempts more than it ought will perform less - Thomas Babington Macaulay
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Faisal,
Again an excellent article. Never miss your articles. Lot of education in your articles. Keep up the good work.
I have one doubt in the conclusion of this article which states "Banks would however be very reluctant to lend and this would be a major headache for the Fed." I was under the impression that current low interest rates by the Fed are making the bank to give easy loans to customers. These people who borrowed money would then invest in high yielding assets in different countries through various funds. Please could you clarify my doubt.
Regards,
Nannu
The banks are getting almost free money from the Fed...But this money is not being passed on to the consumers...There are two main reasons for that:
1)The banks have become risk averse and are not lending to the general consumers. They are still infact in the process of writing off huge amount of loans.
2)The consumers are also overleveraged and hence they are trying to de leverage.This is indicated by the repayment in loans and also the sharp decline in credit growth.
However, you mentioned about the easy money and speculation with this money. This is right but is being done by the major banks not the consumers in general. These big banks are getting the easy money and speculating with that in all asset classes globally. This is helping them to offset the losses they are making from their core business of giving loans.
Dear Faisal,
Thanks for the clear explanation. Correct me of if i am wrong. I would assume that Fed would not want this money to be invested in asset classes globally, but rather pass in on to the consumers in US to spur growth locally.
Regards,
Nannu
Yes thats correct...The Fed would ideally want that...But thats the problem with just printing money and flooding the system with money..
The Fed has no control at all over where this money gets deployed...infact this has backfired on them in more then one ways...the rising commodity prices and oil prices would also hurt them...
The bottomline is that for every problem, money printing is not the soluion...one needs to first identify the nature and cause of the problem...U.S. is trying to solve the problem with things which lead to the problem in the first place...that would surely not help...and it is making things worse for the long run...
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