The FDIC Is in Trouble

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As we all know, the Federal Deposit Insurance Corporation (FDIC) guarantees depositors that they’ll get their money back if a bank fails, at least up to a certain amount. To fund its operations, the FDIC collects small fees from the banks that are held in reserve for the purpose of taking over troubled banks and paying off depositors.

Since the Great Depression, a period marked by widespread runs on banks, the FDIC has done a good job of fulfilling its mandate. So how are they doing in this crisis?

In a nutshell, they are in trouble.

The FDIC insures 8,246 institutions, with $13.5 trillion in assets. Not all of them are going bankrupt, of course. Yet as of late July, a disturbing 64 banks had gone belly up this year – the most since 1992 – costing the FDIC $12.5 billion. At the end of Q1, the agency was already asking for emergency funding.

And worse, much worse, is likely yet to come. The following chart shows the total assets on the books of the FDIC’s list of 305 troubled banks. The list doesn’t include the biggest banks that are considered too big to fail, as they are being separately supported with bailouts. By contrast, if the banks on this list fail, the FDIC is on the hook to have to step in and take them over and, of course, make depositors whole.

Other measures of how serious the losses at banks are becoming can be seen in the chart below, which shows charge-offs and non-current loans at all banks. You can see that the Net Charge-offs remain stubbornly high, with banks charging off almost $40 billion in bad loans in the last two quarters alone. And the number of non-current loans – loans where payments are not being kept up – is soaring.

Together, these measures indicate the potential for more big failures and more big bailouts coming down the pike.

Into the battle against bank insolvency the Fed brings a level of reserves that can best be described as paper-thin. From almost $60 billion last fall, the FDIC’s reserves have been drawn down to only about $13 billion today, a 16-year low. A quick look at the FDIC’s own data shows us how inadequate those reserves are compared to the deposits they are now insuring.

The chart below says it all:

As you can see, the Federal Deposit Insurance Corporation currently covers each dollar on deposit with a trivial 2/10ths of a penny.

And even that understates the seriousness of the situation: the $4.8 trillion in deposits the FDIC is providing coverage on doesn’t include the expansion that now extends insurance coverage from $100,000 to $250,000 for normal bank accounts. That likely brings the exposure of the FDIC closer to $6 trillion. But that’s pretty inconsequential at this point: using any reasonable accounting method, the FDIC is already bankrupt and will require hundreds of billions of dollars in government bailouts just to keep the doors open.

So, given the dire shape of its finances, what measures is the FDIC taking, you know, to batten down the hatches and all that?

For starters, they are expanding their mandate by guaranteeing bank loans – $350 billion and counting at this point. And the government has tapped the FDIC to play a pivotal role in guaranteeing the loans issued to buy toxic waste through the government’s highly problematic and fraud-prone new Private Public Investment Partnership (PPIP). The FDIC’s commitment to the PPIP is and may become limited based on its resources.

It is hard to draw any other conclusion but that hundreds of billions in new funding will be required to keep the FDIC operating. Given the catastrophic consequences of the FDIC failing, starting with a bank run of biblical proportions, there’s no question it will get whatever funding it needs. By loading the new loan guarantee responsibilities and the PPIP onto the FDIC’s back, the administration will go back to Congress and ask for the next large bailout.

Of course, in the end, all of this falls on the taxpayer, either directly in the form of more taxes or indirectly via the destruction of the dollar’s purchasing power. Another bale of straw on the camel’s back, and another reason to be concerned about holding paper dollars for the long term.

Regards,

Bud Conrad
for The Daily Reckoning Australia

Bud Conrad
Mr. Conrad holds a Bachelor of Engineering degree from Yale and an MBA from Harvard. He has held positions with IBM, CDC, Amdahl, and Tandem. Currently, he serves as a local board member of the National Association of Business Economics and teaches graduate courses in investing at Golden Gate University. Bud Conrad, a futures investor for 25 years and a full-time investor for a decade, is also a regular lecturer for American Association of Individual Investors. In addition he produces original analysis for Casey Research, including unique charts and research on the economy and investment markets.
Bud Conrad

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4 Comments on "The FDIC Is in Trouble"

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Curt
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This is especially troubling to me, because I work for a supplier of banks. The other day I read that 500 banks are could fail in the next year and another 1000 the year after.

In two years, we could see the number of banks drop from 8000 to 6000. That is a lot of lost customers for bank suppliers and I’m sure my company will have to reduce it’s staff to manage the losses. Time to consider plan B.

Ross
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I will try to wrap a few thoughts I have had with recent events. I believe the most upfront regulators have been the Brits even though they are in one of the most perilous positions outside the basket case Baltics. So when they have just announced another pump up of the printing press I believe they are responding to the reality of their situation rather than hiding from it. They have a track record of allowing real estate to be marked down to market (look at the late 80’s and the current figures and compare them to Australia’s denial efforts… Read more »
Dan
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An additional planet aligning against the fortunes of the recent US rally is that people are discovering how (and to what extent) the Federal Reserve is manipulating markets at the moment: http://market-ticker.denninger.net/archives/1304-BLATANT-Monetization-Uncovered.html. I think the current market rally (suckers’ or whatever name it ends up getting) is very close to its end.

Steve Dietrich
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The ratio of projected FDIC loss to bank assets appears to have been rising on recent closures, potentially indicating that the FDIC is closing only the most troubled banks. In some cases the projected loss appears to be several times the amount of capital which the bank should have had, indicating that the bank was deeply insolvent well before the takeover.

Our sense from the field (real estate) is that rather than mark to market, the prevailing attitude in the relationship between the banks and fdic is don’t ask- don’t tell.

wpDiscuz
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