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In ordinary times, a public discussion on deposit insurance would hold all the drama of a seminar on Canadian land use. But these are no ordinary times. Last Wednesday at the Chicago Mercantile Exchange, a bank of television cameras, several reporters, and about 100 people picking at their lunch—arugula salad, stuffed chicken, a strange fruit/cream confection—paid close attention when a fiftysomething woman with a professorial mien took the podium. Sheila Bair, chairman of the Federal Deposit Insurance Corp., stood under a large banner reading, "CONFIDENCE AND STABILITY"—an unsubtle attempt to bolster flagging confidence in the nation's financial sector. The panel discussion, featuring Terry Savage, the Suze Orman of the Windy City, was part of a $5 million public education campaign marking the FDIC's 75th anniversary. As Bair told me before the excitement began: "We're bringing in local experts, and banks, and talking about deposit insurance." Par-TAY!
After several years on the D-list, deposit insurance is hot. The FDIC's Web site last Monday tallied a record 9 million hits, with nary a mention of Brangelina's twins. Traffic was driven by concerns about IndyMac, the big California lender taken over by the FDIC on July 11, and by general concerns about banks' health.
Bair, who taught at the University of Massachusetts before taking the helm of the FDIC in mid-2006, is a part-time children's-book author. ( Rock, Brock and the Savings Shock tells the story of twin brothers: Brock stows away cash earned from chores while Rock splurges on gewgaws like a toy moose head. Ultimately, Brock bails out the spendthrift Rock by establishing a joint savings account.) And today, she is standing at the schoolhouse door and urging restive Americans to chill. "The overwhelming majority of banks in this country continue to be well-capitalized," she said.
The FDIC was created, over the vociferous opposition of its beneficiaries—the banking industry—in the dark spring of 1933, when 4,000 banks had closed. Francis Sisson, then-president of the American Bankers Association, thought the idea of having banks kick in to a fund that would insure individual banks against losses—and the entire system against the contagion of bank runs—was "unsound, unscientific, unjust, and dangerous."
But it worked. In 75 years, no insured deposit—the current limit for a regular account is $100,000—has been lost, even in the lean years between 1986 and 1992, when 2,304 institutions went tapioca. From June 25, 2004, when the tiny Bank of Ephraim in Ephraim, Utah, went under, until Feb. 2, 2007, when the tiny Metropolitan Savings Bank in Pittsburgh went bust, the FDIC enjoyed its longest failure-free streak. "It was two and a half years, but who's counting?" said Bair. (Bair has the most developed sense of irony of any regulator I've interviewed this year.)
Like Maytag repairmen, FDIC staffers who deal with failed banks grew lonely and a little out of practice. But now, anticipating a rise in business, the agency has called dozens of veterans out of retirement and is hiring. Five banks have failed this year (here's a list of failures this decade), and Bair expects more. Ninety banks are on the FDIC's problem list.
While the FDIC has weathered its first 75 years quite well, it still faces some problems. By law, it maintains a rainy-day fund equal to 1.25 percent of the level of insured deposits. The result: Today, some $52.8 billion—all of it in ultra-safe treasury bonds—stands behind $4.2 trillion in insured deposits. That's not much of a margin for error. The failure of IndyMac will sap $4 billion to $8 billion from the fund, or up to 15 percent of its total.
Bair has a five-year term. So unlike most of today's policymakers, she'll be around to clean up the mess. This may explain why she's been calling for lenders to absorb pain now to avoid systemic pain in the future. Last fall, she strayed from administration talking points when she urged lenders to convert loans with teaser rates into permanent fixed rates at low levels. Doing so, she believed, would stave off a spiral of foreclosures and fire sales, which depress prices further—leading to more foreclosures. This spring, she said the Treasury Department should make available some $50 billion in interest-free direct loans. Borrowers stuck in adjustable-rate mortgages could use the cash to pay down 20 percent of their loan principal, and lenders would restructure the remaining debt into fixed-rate loans. "We're making loans to everybody else," she said, referring to the credit that taxpayers have extended to Bear Stearns and to Fannie Mae and Freddie Mac.
Bair hasn't had much luck convincing the industry or her colleagues in government. But taking over banks does give the FDIC some power to act unilaterally. When the FDIC assumed control of IndyMac, one of Bair's first actions was to freeze foreclosures temporarily on $15 billion in loans it owns while it seeks to modify them.
The solutions she lays out are relatively simple: an ounce of prevention to avoid pounds of trouble. But these are complicated questions, even (especially?) for bankers. When she's done with the tour, perhaps Bair can invite the CEOs of banks for story time and regale them with the richly illustrated tale of two reckless fraternal twins who lend promiscuously and have to get bailed out by their friend Joe Taxpayer. Working title: Freddie and Fannie and the Housing Shock.
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