William Black: "Unlimited Taxpayer Bailout" of FDIC Coming; FDIC Shell Game Hides the Bailout

Last Friday seven more banks failed bringing the total bank failures to 103.

U.S. bank failures this year have surpassed a bleak milestone of 100 as regulators shut down banks in Georgia, Florida, South Carolina, Kansas, Nevada, Minnesota and Oregon.

The seven bank seizures announced Friday bring to 103 the failures so far in 2010. The pace of bank closures this year is well ahead of that of 2009, which saw a total of 140 banks shuttered amid the recession and mounting loan defaults. That was the highest annual tally since 1992, at the height of the savings and loan crisis.

The number of banks on the FDIC's confidential "problem" list jumped to 775 in the first quarter, from 702 three months earlier, even as the industry as a whole had its best quarter in two years.

More Failures Coming

The FDIC is now deep in the red and the situation is getting worse every week. The situation would be even worse were it not for widespread "extend and pretend" tactics that keep woefully insolvent banks in business.

FDIC Shell Game To Hide Bad Assets

To address the situation, the FDIC is going to start selling U.S.-guaranteed FDIC senior certificates. However, it has no Congressional authority to do so according to former thrift regulator William Black.

Unlimited Taxpayer Bailout

Black claims an "unlimited taxpayer bailout" of the FDIC is on the way.

Barrons discusses the situation in Uncle Sam Rides Again: Banking on a Bailout?

BEFORE THE FINANCIAL CRISIS is unwound, the Federal Deposit Insurance Corp. expects to have taken over some 300 failed banks. The rapid closures have drained the agency's cash reserves.

The FDIC must sell assets to continue the closings. It has about $37 billion of bad-bank assets to sell, but the stockpile would bring only 10 to 50 cents on the dollar.

Enter the FDIC's Securitization Pilot Program, the sale of U.S.-guaranteed FDIC senior certificates. This enables the FDIC to push much of the losses off its books, thanks to the U.S. guarantee of principal and interest. The program starts with a $500 million issue.

"They aren't really selling the bad assets. They're selling the equivalent of a Treasury bond without congressional approval," says William Black, a former thrift regulator. "It hides the economic substance of what's really happening—an unlimited taxpayer bailout."

The FDIC contests the characterization, saying it doesn't expect a claim on the guarantee because of an equity cushion to absorb the losses, and the use of only performing mortgages in the pools. The agency says a lot of resources stand between it and the taxpayer.

Foot in the Door Ploy

Notice how the $500 million start gets the FDIC foot in the taxpayer's door. At some point Congress will probably grant authority to the FDIC just as the Fed got unlimited funding for Fannie Mae.

President Obama and the Democrats are making matters worse by permanently upping the FDIC limit to 250,000 in the financial reform legislation that just passed.

Moral Hazards

FDIC is a moral hazard. Many banks that failed were able to stay in business because of taxpayer deposits at above market rates. For example, no one in their right mind would have had deposits at Corus Bank, a bank with many troubled loans to Florida and Nevada condo developers.

Corus bank would have failed long before it did, without the FDIC guarantee. Not only was the bank able to attract funding by offering above market rates, Corus contributed to the enormous property bubble in Florida and other places.

Instead of preventing risky bank practices in the first place, or upping the insurance rate on risky bank practices to cover excessive risk, the FDIC is about to get an unlimited taxpayer sponsored bailout by selling U.S.-guaranteed FDIC senior certificates, even though it has no authority to do so.

FDIC Legacy

As a result of the inept policy decisions by the FDIC, instead of having small bank failures widely spread out over time, we have had concentrated bank failures in a short period of time.

Taxpayers will be the ones to pay the price. This is the legacy of FDIC and its failed moral hazard policies.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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