IndyMac Federal Bank in Pasadena, Calif.
In the late 1990s and early part of this decade, a succession of Federal Deposit Insurance Corp. (FDIC) chairmen fought to raise the agency's insurance limits and its clout. Congresses repeatedly said no. Employment at the FDIC shrank to 4,500 staffers, from about 23,000 in the early 1990s. Some even argued that the agency's insurance fund should be abolished altogether.
What a difference a credit crunch can make. In the past year, the FDIC has become the most active dealmaker in the banking industry, taking over 25 banks in 2008, up from just three the year before, and auctioning them off to the highest bidder. Its chairwoman, Sheila Bair, who was early in warning about rising foreclosures, has become a key policymaker in helping resolve the nation's financial crisis. At her urging, Congress in October upped the limit on FDIC insurance, albeit temporarily, to $250,000 from $100,000. The agency is staffing up too, and plans to hire as many as 125 new staffers over the next few months. (See pictures of the global financial crisis.)
"The FDIC stepped up to the challenges it faced in 2008," says Robert Hartheimer, former director of the Division of Resolutions at the FDIC and a banking consultant in Washington. "I am encouraged going into 2009 that they will effectively perform their mission in what is likely to be a very busy year for failures and bank weakness."
Observers expect hundreds of banks to fail in the next few years, giving the agency plenty to do. The FDIC also plans to do more monitoring of lending practices. Last week the FDIC said it wants the 5,000 banks it regulates to provide more data on what they are doing with the billions of dollars the institutions recently received in federal aid. Bair is pushing the banks to use more of the money to make loans or help homeowners facing foreclosure.
"I think the FDIC and Sheila Bair for the most part have done a pretty good job," says Dean Baker, co-director of the Center for Economic and Policy Research. "They haven't had great results so far, particularly with loan modifications, but they have been focused on the right things."
But at the same time that the FDIC is drawing kudos for advocating for troubled borrowers, it is struggling with the higher expenses of doing business as the nation's bank dealer of last resort. And the rising cost of failures puts ever more pressure on the FDIC's insurance fund. In the first nine months of 2008, the fund had to pay out nearly $18 billion to depositors of failed institutions. At the end of the third quarter, the fund stood at $34.6 billion, down 34% from the end of 2007 to its lowest level since the end of 1995.
"The FDIC knows how to do deals," says Kevin Stein, a former senior official at the FDIC and a managing director at investment bank FBR Capital Markets. "But there is a storm right now in the banking businesses, and the FDIC is being asked to sell assets nobody wants."
The FDIC's chief job is to provide insurance on bank deposits. That means when a bank fails, it is up to the FDIC to guarantee that you'll get at least that much of the money you had in your checking account or savings account or certificate of deposit. It does this by seizing a bank when it fails and selling it off whole or in pieces, typically to another bank, for as much as it can get. The difference between what the bank sells for and how much is still owed depositors is the FDIC loss and comes out of its fund, which all banks are required to pay into.
Selling failed banks is never a profitable business. But recently, as the credit crunch has gotten crunchier, the cost of cotton-balling kaput countinghouses has gotten a lot costlier. The FDIC had an average loss (based on deposits) of nearly 30% for the 23 bank deals it did in 2008, for which the FDIC released details, according to financial industry consulting firm Ely & Co. That is more than double the average loss of 13% the agency registered on bank rescues in the 17 years prior to 2008.
What's more, to get many of these deals done, the FDIC has had to swallow the banks' riskiest assets. The FDIC now owns $15 billion in bank loans and other troubled debts, up from about $300 million at the end of 2006. In its most recent deal to sell California-based IndyMac to a group of private-equity investors, the FDIC agreed to shoulder as much as 75% of the bank's $16 billion lending portfolio in order to close the deal.
Observers say that higher-than-average FDIC losses are a function of the market, not the FDIC's dealmaking prowess. Sources close to the IndyMac sale said there were only a handful of submitted bids, not all of which were to buy the whole bank. And while the FDIC has had to take on some troubled assets, the agency has retained just 4% of the assets of the banks that have failed. That's far less than what it has had to retain in the past. In the S&L crisis, the FDIC was on average swallowing nearly 80% of the troubled assets of failed banks. What's more, the FDIC says the average loss ratio hides the fact that the agency was able to resolve the largest bank failure of 2008 — Washington Mutual— without costing its insurance fund a dime. "Washington Mutual was an absolute home run," says FBR's Stein.
Still, some observers say the FDIC and other regulators need to do more to limit losses. If losses pile up faster for the FDIC than it can replenish its fund by taking in new insurance fees from banks, taxpayers could eventually be on the hook for its losses.
"It's not just the FDIC's fault," says Bert Ely, CEO of Ely & Co. "But it and other regulators are not moving fast enough to close problem banks and limit losses."