Could the FDIC Be Rushing Towards Bankruptcy?

“The Financial World According to Inya” Column,
by Inya Ivkovic, MA

It appears that the Federal Deposit Insurance Corporation (FDIC), the mandate of which is to preserve and promote public confidence in U.S. financial institutions by insuring deposits for up to $250,000  (through December 31, 2013), is running out of money. That could mean taxpayers should be prepared to open their wallets again. The main reason the FDIC is running on monetary fumes is a familiar one: a surge in bank failures in the aftermath of the financial and credit crisis has depleted the agency’s reserves. The next question is: what are its options?

The FDIC has several. It could make banks still left standing pay their future assessments well in advance. Or — now is not the time to be shy — the FDIC could turn around and borrow the money from the same banks that it regulates, although that would be some proverbial conflict of interest! Alternatively, the FDIC could borrow from the Treasury, with which it has a longstanding line of credit worth $500 billion.

There is a bit of a conundrum, for lack of a better word, with respect to borrowing from the Treasury. Namely, it may not be entirely clear if that $500-billion credit line exists to cover losses the FDIC expects or if it is there for unexpected emergencies. Additionally, this debate is not intended solely for the FDIC. It is really something that should be discussed in Washington and with the member banks.

What taxpayers can construe from this is that the FDIC’s financial condition must indeed be dire to resort to borrowing from the Treasury, because this was supposed to be a measure of last resort. Additionally, regardless of which route the FDIC takes concerning its dwindling reserves, the bottom line is that this federal agency, among too many others, has been mismanaged, and its authority and credibility as a regulator are in shambles.

Worse yet, the FDIC does not want the public to know the truth about its finances and management. Articles written in reputable financial media about the FDIC’s fall from grace and the potential rush towards bankruptcy without fail result in letters to the editor, demanding retractions that state the FDIC’s financial health is just fine, thank you very much!

In its defense, the FDIC invokes its ability to raise capital from the entire banking industry, the size of which is an alleged $1.3 trillion. Furthermore, if need be, the FDIC could indeed borrow from the Treasury and still be able to pay any amount borrowed right back from the fees collected from the member banks. It is not as if borrowing from the Treasury today would set a precedent, since the FDIC has already borrowed once back in the 1990s, paying everything back within two short years.

However, what industry observers find so baffling is the FDIC’s short-term vision. First, in the post-Great Recession era, it is doubtful that the $1.3-trillion pool of money is available in a practical sense. Many banks are still struggling too much themselves to be able to help someone else.

Also, the FDIC has a troubling history of failing to estimate its future liabilities properly and, consequently, not collecting enough revenues in the past to cover potential losses in the future. Part of the responsibility for mismanagement lies with Congress, which, until 2006, prohibited the FDIC from charging well-capitalized banks excess premiums. Remember, those were the good days, so many banks that appeared to be well-capitalized and well-managed could get away from paying a dime into the FDIC’s coffers. Of course, now the word “well-capitalized” has a whole new meaning, and not necessarily a positive one.

In other words, if the FDIC goes the route of borrowing against its credit line with the Treasury, the likelihood of repaying that money back from future assessments on member banks is limited. This is precisely the reason why it should not borrow from the Treasury and, ultimately, from us, the taxpayers. But considering that the majority of banks probably can’t afford further cost increases, short-term or otherwise, the FDIC might not have any other choice.

So, let’s watch out for this one. We could be talking about another bailout sooner than anyone wanted or expected to deal with one again.