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FED, TREASURY, SEC, FDIC: What is going on with our banks?

In an environment where we are subject to the daily drumbeat of discouraging news and all political candidates seems to have a solution for what ails America, it has never been so important to ignore the pundits and protect your own interests.

Especially since the media seems hell-bent on accentuating and amplifying the negative economic news as they play their one-sided democrat political games.

Most importantly, one should realize that two basic government policies caused the current financial catastrophe.

The Federal Reserves “easy money” policy to assist in the economic recovery from the dot com boom where investors bought into public relations hype and pushed into investments which never yielded a profit while they burned cash at prodigious rates. The continued extension of easy money increased the moral hazard associated with those who could now finance speculative activities with a degree of reduced vigilance which would have occurred when capital was not so freely available.

And the political interference in the mortgage industry with legislatively-mandated “easy loan” policies. Through legislation supporting community redevelopment activities which compelled lending to minorities and the disadvantages, sound lending practices were often severely compromised for political reasons. Lenders were prosecuted and fined for not lending enough in so called red-lined minority territories where there were fewer able borrowers or when lenders charged correspondingly higher rates to insure for the added risk. Community activists also sued lenders much on the same grounds: not enough loans to disadvantaged borrowers. The politicians also exerted their will in exhorting Fannie Mae and Freddie Mac to purchase more loans originated by so-called “affordable housing lenders,” a euphemism which we now understand to be a code word for “subprime lenders.” 

Once started, easy money and easy lending policies created a monster that took on a life of its own. Some of the lenders, enabled by the Wall-Street Wizards, took undue advantage of this  confluence of ill-informed public policies to push beyond the barriers of prudent business practice and enrich themselves in the process. The entire process was aided and abetted by the government’s “implicit” guarantee of its quasi-governmental housing agencies, Fannie Mae and Freddie Mac, and the prevailing wisdom that some financial firms were just “too big to fail.”

And now we are faced with the aftermath of the financial debacle that ensued.

The plan: a graceful failure …

It is no secret that the prime strategy of both Hank Paulson’s Treasury Department and Ben Bernanke’s Federal Reserve is to continue to pump enough liquidity into financial institutions to not only allow marginal institutions to continue their day-to-day operations, but to delay the inevitable day when they must finally book their losses.

The theory behind such a strategy is that if the losses were slowly recognized on the books, the likelihood of a cascading spiral of bank failures and bankruptcies would be avoided and thus the United States economy would be spared a deeper recession. 

The downside is that, by allowing those who have placed the United States financial system in jeopardy to remain in power, you are more likely to see a continuing pattern of poor judgement and people who should have either been tossed out on the rump or incarcerated wind up with large bonuses. Not to mention the prolongation of the misery while the pain is distributed across the entire population.

When all is said and done, the public will be paying the price for the financial shenanigans of the Wall Street Wizards and their bankers while the perpetrators retire to the multi-million dollar mansions and live a jet-set lifestyle.

And the government is not helping …

The SEC

Perhaps in the coming days we will see the Securities and Exchange commission provide some rational plan for curbing rampant speculation and the practice of “pile-driving” where unregulated hedge funds and other large players were allowed to sell securities short without ever having to own the securities that they were shorting.

Perhaps they will restore the uptick rule which affects the timing of short sale activities?

Perhaps they will deal with imprudent leveraging by adjusting the margin requirements which currently allow very small amounts of capital to control much larger investments? Thus encouraging additional borrowing to purchase securities on margins in order to juice the returns. Why people are so surprised when you find a sustainable five percent loss on a seven-fold leveraged deal turns into an unacceptable  thirty-five  percent loss beats me. It’s the nature of the beast and sophisticated players should be able to as easily anticipate the downside as they are to project potential profits.

Not to mention the SEC’s acceptance of FAS rules 125/140, dealing with “off-balance sheet” entities, which allows the masking of the true financial condition of an organization from the investors, shareholders and the regulators.

And where is the regulation of hedge funds which operated as unregulated non-depository merchant banks?

Potential impact on the FDIC …

But perhaps their most egregious activity is not continuing the ban on “naked short selling” when it came to protecting some of the nation’s largest banks and financial institutions from speculative spirals encouraged by short selling. Thus adding to the potential pressure on the FDIC’s ability to deal with banks whose core capital requirements are being stressed to the point of “unsoundness” as investors rush to pull their money out of declining banks and financial institutions. A failure of confidence brought on by nothing more than speculative short selling for short term profits.

The FDIC

I have seen more than one report where the FDIC (Federal Deposit Insurance Corporation) is forewarning that they may need to raise additional capital by hiking the premiums covered entitites pay for FDIC coverage or dip further into government resources.

Which makes me question why the FDIC has voluntarily offered to pay an advance dividend of 50% on uninsured deposits prior to the liquidation and/or resolution of a failed institution. This seems to be imprudent to say the least, especially in a “cash is king” environment.

“On July 11, 2008, IndyMac Bank, F.S.B., Pasadena, CA was closed by the Office of Thrift Supervision (OTS) and the Federal Deposit Insurance Corporation (FDIC) was named Conservator.  All non-brokered insured deposit accounts and substantially all of the assets of IndyMac Bank, F.S.B. have been transferred to IndyMac Federal Bank, F.S.B. (IndyMac Federal Bank), Pasadena, CA "assuming institution") a newly chartered full-service FDIC-insured institution.  No advance notice is given to the public when a financial institution is closed.”

“The FDIC has assembled useful information regarding your relationship with this institution.  Besides a checking account, you may have Certificates of Deposit, a car loan, a business checking account, a commercial loan, a Social Security direct deposit, and other relationships with the institution.  The FDIC has compiled the following information which should answer many of your questions.”

If it is determined that you have uninsured funds, the FDIC will generate and mail to you a Receiver Certificate.  This certificate entitles you to share proportionately in any funds recovered through the disposal of the assets of IndyMac Bank, F.S.B.  This means that you will eventually recover some of your uninsured funds.  The FDIC declared a 50% advance dividend for uninsured deposits.”  <Source>

Payment Priority …

“Prior to August 10, 1993 the law in effect at the time the institution failed determined the priority in which the proven claimants received dividends.  All receiverships established after August 10, 1993, must distribute dividends according to the Federal Deposit Insurance Act, 12 U.S.C. § 1821(d)(11)(A), which mandates the following priorities:

    1. Administrative expenses of the Receiver;
    2. Any deposit liability of the institution;
    3. Any other general or senior liability of the institution;
    4. Any subordinated obligations;
    5. Any obligations to the shareholders or members (including holding companies and their creditors).

Types of Dividends:

    1. Advance: Dividends paid to proven uninsured depositors (usually paid within 30 days of closing). The FDIC Board of Directors authorizes the percentage of dividends for this type of dividend.
    2. Traditional: Dividends paid from the net proceeds derived from converting assets of the institution to cash. Such a dividend may be declared for uninsured depositors and unsecured creditors with proven claims, and others in order of their priority. This type of dividend is the most commonly used.
    3. Initial: A hybrid of the Advance and Traditional dividends. This dividend is based on the dollar amount paid for the assets assumed by the acquiring institution less appropriate reserves. The Initial dividend is paid as soon as possible after the institution is closed and paid to the proven uninsured depositors, generally within a few weeks.
    4. Post Insolvency Interest: This dividend is paid once a receivership has paid 100% of the principal on the uninsured Depositor and General Creditor Claims. <Source>

And I am not the only one to see this troubling pattern of behavior.

According to an August 9th report by Bloomberg…

“The failure of IndyMac Bancorp Inc. and seven other banks this year may erase as much as 17 percent of a government insurance fund and raise premiums for all banks, from Franklin National of Minneapolis to Bank of America Corp.”

“The closing of IndyMac in July, the third-biggest U.S. bank failure, may cost the fund $4 billion to $8 billion, in addition to an estimated $1.16 billion for seven closures through Aug. 1. Premiums for deposit insurance will likely rise, FDIC Chairman Sheila Bair said in a July 30 interview. A decision on the increase is due by the fourth quarter.”

“The pace of bank closings is accelerating as financial firms have reported almost $495 billion in writedowns and credit losses since 2007. The FDIC's `problem’' bank list grew by 18 percent in the first quarter from the fourth, to 90 banks with combined assets of $26.3 billion. A revised list is due this month. The insurance fund had $52.8 billion as of March 31.”

“The FDIC estimated its shutdown of California-based mortgage lender IndyMac might drain as much as 15 percent from the fund. Seven other banks will take about $1.16 billion, or about 2 percent. “

Risk and cost transference …

Here we can plainly see that the remaining banks which face rising insurance premiums will be paying for the mistakes of banks which engaged in unsound lending practices.

Instead of conserving cash and playing by the rules generally accepted by the public, the FDIC is handing out more cash than is necessary under the circumstances. So, in effect, we all earn less interest on our insured bank accounts, thus further spreading the cost of the financial debacle among the citizens simply wanted to save for their retirement or a rainy day.

Where is the public’s outrage at seeing the “above and beyond costs” of bank failures spread continuing to be spread to the innocent public who has always been urged to save for a rainy day?

The FDIC is not immune to problematical management …

While the FDIC was busy watching over banks, and ostensibly unsound lending practices, it seems that they were also engaging in the very activities which led us to the mortgage meltdown.

“WHAT DID THEY KNOW AND WHEN DID
THEY KNOW IT?”

“It is fashionable for regulators to say that they were taken by surprise and were unaware of how deep the violation of sound banking practices ran.”

“Unfortunately, the FDIC appears to be complicit in the sale of subprime loans with all of their warts and wrinkles – including falsified
data and pushed appraisals.”

“According to a story in the July 21st version of the Wall Street Journal’s online edition, ‘The unusual situation, which is still bedeviling bank regulators, stems from the 2001 seizure by federal officials of Superior Bank FSB, then a national subprime lender based in Hinsdale, Ill. Rather than immediately shuttering or selling Superior,as it normally does with failed banks, the Federal Deposit Insurance Corp. continued to run the bank's subprime-mortgage business for months as it looked for a buyer.’”

With FDIC people supervising day-to-day operations, Superior funded more than 6,700 new subprime loans worth more than $550 million, according to federal mortgage data.”

“The FDIC then sold a big chunk of the loans to another bank. That loan pool was afflicted by the same problems for which regulators have faulted the industry: lending to unqualified borrowers, inflated appraisals and poor verification of borrowers' incomes, according to a written report from a government-hired expert. The report said that many of the loans never should have been made in the first place.”

“Bottom line: ‘Hundreds of borrowers who took out Superior subprime loans on the FDIC's watch -- some with initial interest rates higher than 12% have lost their homes to foreclosure, data on the loans indicate.”

Same old, same old … this time in full view of the government watchdog that was to be watching the store.

What can YOU do?

It is important that you always maintain your account balances under the FDIC insured minimum.

For those institutions who are offering supplemental insurance for greater amounts, it is important to consider the health of the insurer. In the subprime mortgage mess, we have seen a number of insurers who were allegedly assessing the risk by examining the underlying collateral and charging actuarially sound premiums simply declare bankruptcy. It is also important to check where the actual insurer is located as insurance companies domiciled in the Cayman Islands or other tax-friendly nations may be beyond American courts when it comes to restitution requests.

Never rely on the government to make you whole. The best they seem to be able to do is to spread the pain among the general public and watch as we all suffer when the actual purchasing power of the dollar dramatically declines.

Take care of your own finances and watch out for yourself and your family.

Conservatives are now faced with two major choices: having the government tightly-regulate financial institutions or allow them to engage in market-rate activities, so long as they do not engage in criminal activities such as fraud and misrepresentation, with all of the risk being borne by the institution’s investors – with no possibility of a bailout. Should this be attempted with previously FDIC- insured banks, consumers will vote with their feet and send a very strong message to those who may be engaging in unsound activities. I personally chose the latter and would increase the stakes to include mandatory criminal sanctions for those who permitted criminal activities to occur on their watch.

Vote against higher taxes, increased regulations and the abrogation of your civil rights by any candidate or administration that tells you about the necessity of funding pork-barrel projects or experiments in social engineering for the common good.

One cautionary note: be extremely wary of those institutions pushing “global warming” programs which do not yield profits or make financial sense without government subsidies and intervention. This is just the start of a dot com-like bo0m if not checked by rational people relying on solid science.

-- steve

Quote of the day: “Truth will always be truth, regardless of lack of understanding, disbelief or ignorance.” --W. Clement Stone

A reminder from OneCitizenSpeaking.com: a large improvement can result from a small change…

The object in life is not to be on the side of the majority, but to escape finding oneself in the ranks of the insane. -- Marcus Aurelius

Reference Links:

FDIC Fund Strained by Bank Failures May Lift Premiums|Bloomberg.com


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