Saturday, February 14, 2009
Megan McArdle: Depositors ought to get their contractual (FDIC) insurance
... and we simply sell the weak banks to the strong.
Sounds good on paper. Except that we can't.
Why? Because even the strong banks are going through a ton of stress right now. Even if they could establish a reliable and fair price for these assets at arm's length (and nobody can put a reasonable valuation on them at this point), they simply don't have a lot of capital available with which to purchase them.
Eventually, though, that will work itself out, and in the long run you don't need government intervention.
But "in the long run" we are all dead. "In the long run" is a huge, huge problem.
Here's why:
The whole scheme relies on the FDIC actually being able to pay off depositors. The problem is they can't. They just can't. There isn't enough capital to do that. As of the end of 2007, the guarantees of $4 thousand billion in insured deposits were perched precariously on a capital reserve of less than 1.25 percent of the total.
That's a lower capital margin than the banks themselves were required to operate with. A lot lower.
And that 1.25% reserve was before IndyMac.
Meanwhile, the FIDC INCREASED its deposit guarantees from $100,000 to $250,000, without any increase in reserves.
Typically, the FDIC's been able to carve out 50 cents on the dollar of saleable assets from banks it has had to shut down. But that's in an environment where asset prices were overinflated and there were buyers available. It wouldn't get anywhere close to 50 cents on the dollar today. Meanwhile, there would be all kinds of family-friendly entertainment as the FDIC struggled to sell its own assets (mostly treasuries) and rescue what was left of its cash and cash equivalents in its reserve fund to pay off depositors.
The FDIC was designed to pick up the occasional local bank failure, and one or two larger banks, so long as they didn't happen too close to one another.
It cannot absorb the Citigroups. It cannot absorb the Bank of Americas. One of these would wipe out the fund. Once FDIC was wiped out it would cause a run on the others. Congress would have to authorize another 500 billion or a trillion overnight to make good on FDIC promises and recapitalize FDIC. They would HAVE to. And then pray that there were still treasury buyers out there. If there is still a market for treasuries, it's going to be at the expense of the money markets, as public debt crowds out private.
The FDIC promise is paper thin.
Splash, out
Jason
Sounds good on paper. Except that we can't.
Why? Because even the strong banks are going through a ton of stress right now. Even if they could establish a reliable and fair price for these assets at arm's length (and nobody can put a reasonable valuation on them at this point), they simply don't have a lot of capital available with which to purchase them.
Eventually, though, that will work itself out, and in the long run you don't need government intervention.
But "in the long run" we are all dead. "In the long run" is a huge, huge problem.
Here's why:
The whole scheme relies on the FDIC actually being able to pay off depositors. The problem is they can't. They just can't. There isn't enough capital to do that. As of the end of 2007, the guarantees of $4 thousand billion in insured deposits were perched precariously on a capital reserve of less than 1.25 percent of the total.
That's a lower capital margin than the banks themselves were required to operate with. A lot lower.
And that 1.25% reserve was before IndyMac.
Meanwhile, the FIDC INCREASED its deposit guarantees from $100,000 to $250,000, without any increase in reserves.
Typically, the FDIC's been able to carve out 50 cents on the dollar of saleable assets from banks it has had to shut down. But that's in an environment where asset prices were overinflated and there were buyers available. It wouldn't get anywhere close to 50 cents on the dollar today. Meanwhile, there would be all kinds of family-friendly entertainment as the FDIC struggled to sell its own assets (mostly treasuries) and rescue what was left of its cash and cash equivalents in its reserve fund to pay off depositors.
The FDIC was designed to pick up the occasional local bank failure, and one or two larger banks, so long as they didn't happen too close to one another.
It cannot absorb the Citigroups. It cannot absorb the Bank of Americas. One of these would wipe out the fund. Once FDIC was wiped out it would cause a run on the others. Congress would have to authorize another 500 billion or a trillion overnight to make good on FDIC promises and recapitalize FDIC. They would HAVE to. And then pray that there were still treasury buyers out there. If there is still a market for treasuries, it's going to be at the expense of the money markets, as public debt crowds out private.
The FDIC promise is paper thin.
Splash, out
Jason
Labels: economy, finance, insurance, investing
Comments:
Sooo, err... where *do* you put your money right now? Under a blanket?
Or in a commodities market, say, soup cans and shotgun shells?
Or in a commodities market, say, soup cans and shotgun shells?
# posted by 
: 11:07 PM
: 11:07 PM
The damn compliance flunkies won't let me make recommendations!
But the key to preservation of capital is in Ben Graham's "Security Analysis," 1934 edition, and the concept of 'intrinsic value.'
I also like the stronger mutual insurers, and participating whole life insurance (overfunded). So much so I make a living selling it now.
But the key to preservation of capital is in Ben Graham's "Security Analysis," 1934 edition, and the concept of 'intrinsic value.'
I also like the stronger mutual insurers, and participating whole life insurance (overfunded). So much so I make a living selling it now.
I've been wondering why people don't just make new banks. A bank that is freshly chartered, has no loans outstanding, and a modest pool of capital should be able to loan money at a very good rate of return to all those companies out there that are being shut out of their normal capital sources because of the financial crisis. So why aren't we hearing more about bank startups?
# posted by : 8:58 PM
: 8:58 PM
I've been wondering why people don't just make new banks. A bank that is freshly chartered, has no loans outstanding, and a modest pool of capital should be able to loan money at a very good rate of return to all those companies out there that are being shut out of their normal capital sources because of the financial crisis. So why aren't we hearing more about bank startups?
# posted by : 8:58 PM
: 8:58 PM
Well, Warren Buffett just recently started an outfit to insure muni bonds. He's got an advantage because he can raise money cheap with a AAA rating, and because it's the competitors who are stuck with the bad underwriting at inflated bond values! Buffett gets to gobble up market share with fresh underwriting.
There are people doing smart things right now. The problem is raising scarce capital to do it with.
There are people doing smart things right now. The problem is raising scarce capital to do it with.
Who knows where to download XRumer 5.0 Palladium?
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# posted by : 6:22 AM
: 6:22 AM
