Big Banks: Still in Charge

Sheila Bair has moved with impressive alacrity to shutter failed small and medium-sized banks. But she is still held hostage by the too-big-to-fail four.

Over the last eight days, her agency has been particularly busy, handling the two largest bank failures of the year. Last Friday it was Colonial Bank, today it will be Guaranty Bank.

With $25 billion and $14 billion of assets respectively, Colonial and Guaranty are the sixth- and 10th-largest failures in the history of the FDIC. Still, they pale in size compared to the biggest banks.

Bank of America Merrill Lynch (BAC), which had $2.3 trillion of assets at the end of the second quarter, is nearly 100 times larger than Colonial. JPMorgan Chase (JPM), with $2.1 trillion, and Citigroup (C), with $1.8 trillion, are nearly as big. Wells Fargo (WFC) had $1.3 trillion, 100 times more than Guaranty. These amounts don’t include hundreds of billions of dollars of off-balance sheet assets.

Yet even Colonial and Guaranty are large enough to give the FDIC indigestion. Its deposit insurance fund had just $13 billion as of March 31. The 56 failures since then will cost it an estimated $16 billion, including nearly $3 billion for Colonial. (That amount excludes Guaranty – the FDIC should provide an estimate for those losses later today.)

It’s an unsettling thought if you have money in a bank. Officially, FDIC backs $4.8 trillion worth of deposits. If you include “temporarily” insured deposits, the total is $6.3 trillion. Yet the insurance fund protecting these deposits is going broke. Soon, the FDIC may have to draw on its credit line at Treasury.

It’s not surprising, given the sorry state of the Deposit Insurance Fund and the gargantuan heft of the big four, that FDIC is taking a bifurcated approach to bank resolutions.

Bair has moved decisively to close small and medium-sized banks. With the monsters, she not only assisted in their bailouts — providing federal insurance for their debt even as she already insures their deposits — she also sponsored their continued growth — putting WaMu in the hands of JPMorgan and pushing Wachovia into the arms of Wells Fargo.

Not that she had much choice. The biggest banks are far too big for her to resolve. One way to measure this is deposits in failed banks as a percentage of GDP.

(Click chart to enlarge in new window)

In 1934, the worst year for bank failures during the Depression, the total was 6.4 percent. In 1989, the most expensive year for the FDIC during the S&L scandal, it was 2.5 percent. Last year, the figure was 1.6 percent.

But the 2008 figure excludes Citi, BofA and Wachovia, which properly should be dumped in the failure bucket. Citi and BofA were goners without bailouts while Wachovia failed and fell into the arms of bailout recipient Wells Fargo. When you include those three, deposits in failed banks jump to 15.7 percent of GDP for 2008.

The FDIC, which was created to protect society from deposit runs, is no longer able to fulfill its mission because the biggest banks have grown far beyond its grasp.

That’s why these banks need to be downsized dramatically. A tax on assets is a good idea, but not enough. To break them up, Washington should limit the deposits in any single bank to a threshold far below what the big four currently hold.

Comments

[DustyLasVegas:]

A responsibly run and regulated business should be able to grow as large as it can. If a bank is both responsible and regulated the current problems do not occur. Don't force all to obey unfair rules because the few were incompetent. Business is the business of this country. We should provide oversite to insure competance & honesty...nothing more.
Truly effective oversite would prevent more Bernie M. and mortgages to those who can not possibly pay. Not size control.

Aug 21 03:39 PM

[Leftfield:]

I believe TBTF buys off regulators until it's too late. They set rules of the game that benefit themselves and continue to fuel growth at all cost. Absolute power corrupts absolutely.
This is the nature of the wealthy and powerful. In government and business, the two of which are unfortunately one at the top now, people tend to define themselves and their occupations by their wealth and power to an unhealthy, sociopathic degree. No good comes of this for anyone else.

Aug 21 05:22 PM

[Zeon:]

A tax on assets, or downsizing won't happen until the global recession is over. Pumping money into the economy via bank bailouts and stimulus packages is working, at least in the short term, and that's all that politicians care about. Meanwhile, there have been few investments the past several months that have performed better than BofA and Citi.

Aug 21 08:35 PM

[Hephasteus:]

It's everybody's responsibility to regulate. Everyone was trying to but as alarms were raised they were ignored over and over and over. Rolfe makes an excellent point. Put a cap on how big a bank can be. A hard cap that can never be raised. Nothing big and powerful is of any benefit to humanity. Just watch Godzilla movies until it makes sense.

Aug 21 10:41 PM

[john s. gordon:]

'need to be downsized dramatically'.
that says it all.
first we had 2 big 2 fail -
what is needed is 2 big 2 not be broken up into manageable-size pieces.
> jack

Aug 22 08:51 AM

[john s. gordon:]

interesting story in todays washpost, page a10 on heather booth & her americans for financial reform who are up against the 20-inch naval artillery of the major banks.
'honesty, truth, decency, fairness, accountability & all the values that we prize in this country'
that;s what it's all about.
> jack

Aug 22 09:22 AM

[mr clark:]

Obama, the great banking president! the Lions share of what remained of America's great wealth siphoned off to feed the parasitic, usury-based financial system, ...literally Trillions gone down the black hole of AIG, FNM, FRE, LEH, C, WFC, BAC, FDIC... nothing but crumbs for the people!

no increased parklands, no desalinization/water efficiency and infrastructure, no major public transit push, nothing for education, little for moving over to natural gas, solar, wind etc, continued pumping of for profit big pharma health care

u have to wonder, when the next collapse of the banks assets happens in the next year or so, will they get more blank checks? who can stop it???

Aug 22 12:53 PM

[Chadstroma:]

I am someone who believes in the free market for almost all industries. The first comment stating that a business should be able to grow as big as it wants is failing to understand one important truth- banks are unlike any other business in importance to the health of an economy. With any other industry, a meltdown will have some trickle effect, but will hardly be all encompassing. For the banking industry, there is no industry that does not look to the banking industry in order to properly run. Our modern economy is based on a healthy banking system. For that reason, the banking industry must be treated differently than any other industry.

The current 'too big to fail' banks are basically unofficial quasi-institutions. The assumption being that the government will never let one of these banks fail because of their size and thus what it would mean to the industry and the economy. This assumption, over the last few years, has been proven correct by the actions of our government.

It would be for the long term health of our country if these banks were forced to downsize. By spinning off divisions and selling assets. These banks gain government backing for free. If Bank of America, Chase or Citi fail- who do they sell them off to? As the article points out, the FDIC can not absorb one of these banks and there are not other banks to sell them to. So, what happens? The American taxpayer is forced to throw billions at the problem and hope that they see some of that money back later on. That is a horrible position to put the American taxpayer.

Will anything ever be forced? No, of course not. These banks have way too much power with the powers that be in DC.

Aug 22 03:30 PM

[GregT:]

The irony in this article suggesting that certain large banks like BofA should be split up to avoid the devastation their failure could cause is that it was the government "made" BofA complete it's takeover of Merrill Lynch in order to prevent a financial meltdown and would now be making BofA split itself up to avoid the potential for financial devastation.

We can't have it both ways. We can't use the healthy banks to buy the troubled banks when it is convenient and then turn around and say that the now combined bank is too large and must be split up.

Aug 24 06:56 AM

[Angry Banker:]

I wish everyone would quit whining about "too big to fail" already! When the former Citicorp (pre-Citigroup) was headed towards failure in the early 90's, it was deemed too big to fail then and thus bailed out. And it was MUCH smaller at that time then it is today. Look, it's just a fact of life that in our globally interconnected economy, there are going to be some very large institutions that would have a debilitating effect on the global financial system if they failed. So I think we have to live with that fact and look for other ways to mitigate the risks of such institutions going down besides "breaking them up into tiny pieces".

That means better regulations (not necessarily MORE regulations, just BETTER regulations). The regulators need to have a better understanding of all the risks banks are undertaking and ensure that they DON'T engage in those risks that are not properly controlled. They should also make sure that banks are just doing banking. That means accepting deposits, lending them out at a sufficient spread over the cost of funds, and facilitating trade. Banks have no business selling insurance products (not just traditional insurance products, but also things like CDO's), peddling securities, or in my humble opinion, even trading securities. Enabling banks to deal with these products and services only increased the risk appetite of the banks and exposed them to greater losses when they screwed up.

So get back to basics. Accept deposits, make loans (to properly qualified and verified borrowers) with appropriate collateral, and process payments and receipts between customers. That's all banks should do and no matter how large they get, it is unlikely they will fail and cause mass financial destruction.

Aug 24 09:39 AM

[baji kimran:]

1) It is not entirely clear to me that "Too Big to Fail" is the correct term to use for the problem of the "big US banks". I have seen some people describe the problem as Too Interconnected to Fail.

2) One cannot just unilaterally limit the size of US banks. It is interesting that Seeking Alpha has recently published this article:

seekingalpha.com/artic...

(There appears to be some discrepanies with the numbers listed in the article, but none-the-less the article does illustrate that the bigness of banks is not only in the US)

Banking is global. If big banks are a problem, then a global solution is required. All the banks on the list are too big for the individual home countries to "resolve".

3) The impact of the graph in the article rests soley on the assertion that BofA,Citi,Wachovia, should have failed. If the data from that assertion was not included in the graph, the graph, in my opinion, would have prompted a "so-what, is that all", response.

Also one can argue that BofA really was not in that bad of shape if it had not been for the Merril Lynch acquisition, and Wachovia in fact did not fail, it was bought for approx. $6/share, implying that the FDIC would not have had to cough up any money to resolve Wachovia so it should not be considered a "failed" bank.

Aug 24 10:26 AM

[Mercury63:]

Here is an idea I want to throw out there... I am all for free enterprise and dont believe that the government should have any say in how a company does business as long it is not endangering the public. But I do know the importance of the FDIC in protecting the publics money. So the idea is that when a bank gets so large that it must make a choice of not being insured by the FDIC or down sizing. I personally will not keep my money in a bank that is not insured.

Sep 03 12:51 PM