Moral Hazard at Its Finest: FDIC Insolvency Reveals Huge Regulatory Failure

"So you think that money is the root of all evil?" said Francisco d'Aconia. "Have you ever asked what is the root of money? Money is a tool of exchange, which can't exist unless there are goods produced and men able to produce them. Money is the material shape of the principle that men who wish to deal with one another must deal by trade and give value for value. Money is not the tool of the moochers, who claim your product by tears, or of the looters, who take it from you by force. Money is made possible only by the men who produce. Is this what you consider evil?

"When you accept money in payment for your effort, you do so only on the conviction that you will exchange it for the product of the effort of others. It is not the moochers or the looters who give value to money. Not an ocean of tears nor all the guns in the world can transform those pieces of paper in your wallet into the bread you will need to survive tomorrow. Those pieces of paper, which should have been gold, are a token of honor -- your claim upon the energy of the men who produce. Your wallet is your statement of hope that somewhere in the world around you there are men who will not default on that moral principle which is the root of money. Is this what you consider evil"

Ah, the classics never die, do they?

And yet, 50-some years later, here we are being chased by the phantoms of common sense as we attempt to readjust to "new normal". Adjust all you want, kids, "the moral principle" has long been defaulted upon.

Speaking of default...

Chris Martenson has an absolute do-not-miss post on just how broke the FDIC is at this point, the perils of moral hazard, and lots of other interesting tidbits on bank failures that should properly adjust your head should you find yourself confused and/or under the influence of the green shoots these days. But it was this little bit that I found most intriguing:

In March 2009, Sheila Bair, head of the FDIC, announced that the FDIC intended to levy a one-time fee on member banks to cover the looming shortfall.

Small and regional banks protested vigorously, noting that they were effectively being punished for remaining sound while Wall Street and a few notorious banks played with fire. They have an excellent point. Note the strong language used by ICBA president Camden Fine:
The group — made up of mostly small town, rural banks that never traded in exotic mortgage-backed securities — is outraged [by the proposed levy].

[Independent Community Bankers of America] ICBA President Camden R. Fine compares the FDIC to Japan’s attack on Pearl Harbor. He calls the special assessment on the nation’s 8,000 community banks “crippling,” and blamed “greed, incompetence and sins of the Wall Street firms that so crippled this nation’s economy.”

“We have now come to the point where the ‘systemically unimportant’ banks of Main Street must, along with the nation’s taxpayers, bail out the ‘systemically important’ Wall Street firms,” Fine said. “Not only are a handful of Wall Street CEOs holding a gun to the taxpayers’ heads, they have the banks of Main Street America looking down the barrel as well.”

Fine said it is ironic that on the day the special assessment was announced, struggling CitiGroup received another government bailout. He says community banks are strong and are doing the economic work the bigger banks should be doing.

“During the fourth quarter of 2008, community banks had the largest percentage increase in lending across the industry,” Fine said. “For every dollar paid in premium assessments, a community banks’ ability to make loans and support economic recovery will be reduced at least eightfold.”

His point, besides being asked to shoulder the burden for irresponsible banks (which is galling enough in itself), is that every dollar sucked out of a small bank represents eight dollars of loans that cannot be made into local communities. It bears noting that recoveries are mostly made due to small business expansion and hiring, yet the effective result of the FDIC levy will be to siphon recovery fuel from small communities and transfer it to the big players.

This is not a small point. It is a big deal.

One of my favorite phrases is "too close, can't call it" but in the case of the FDIC, it was painfully obvious very early on where the "insurance fund" was headed. I covered the hell out of this in March and things have pretty much worked out just as everyone expected they would. The argument against a full-on FDIC default is that Congress will always come in to save them but those T-bills have yet to be sold to the sucker of the minute (hi, Japan!) and therefore the magic money doesn't exist. But I suppose the Fed has a trick or two up its sleeve to remedy that little problem.

Guaranty should have been shuttered months ago. Colonial, Affinity, BankUnited... need I go on? We are in total regulatory panic mode with regulators afraid to step in and stem the bleeding as they can't afford surgeons to extract the shards of glass protruding from the victims lying all over the ground after the crash. The FDIC will continue to ignore blatant under-capitalization and dangerous banking practices to keep from having to admit it is bankrupt. That's it.


You can't fight logic. It's time for the FDIC to quit bluffing and get real.

Jr Deputy Accountant

Some say he’s half man half fish, others say he’s more of a seventy/thirty split. Either way he’s a fishy bastard.


Anonymous said...

Your closing sentence is spot on. But what if the FDIC can't 'get real' and it continues on its deadly path? Is the FDIC a monster that can be stopped?


that's a great question but I'm not sure if "monster" is the right word for the FDIC. FWIW, Sheila Bair is one of my favorites - at least among the four horsemen of the apocalypse (Geithner, Bernanke, Summers being the other 3, so maybe that's not saying much) - so I'm kind of gunning for her to do the right thing.

I'd cut off my left arm for her to arrange a conference at which she admits that the agency is, in fact, broke.

I'm not sure what happens at this point. Regulatory limp dick in banking? Armageddon? I don't know.

BILL said...

Good post Jr Dep -

This is a huge hidden time bomb - keeping the zombies alive through lack of the silver bullet or wooden stake - FDIC can run , but thei witchcraft will catch up to em .
Now for our next trick ......