Banks to bail out the regulator?

If Americans have had enough of government bailouts of banks, maybe they’ll like the latest twist on the financial collapse — but they shouldn’t.  The New York Times reports that banks may have to bail out the FDIC instead of the other way around, thanks to a cash shortage in the deposit guarantor’s insurance fund.  That would certainly put the FDIC in an awkward position to enforce its own regulations:

Tired of the government bailing out banks? Get ready for this: officials may soon ask banks to bail out the government.

Senior regulators say they are seriously considering a plan to have the nation’s healthy banks lend billions of dollars to rescue the insurance fund that protects bank depositors. That would enable the fund, which is rapidly running out of money because of a wave of bank failures, to continue to rescue the sickest banks.

The plan, strongly supported by bankers and their lobbyists, would be a major reversal of fortune.

A hallmark of the financial crisis has been the decision by successive administrations over the last year to lend hundreds of billions of taxpayer dollars to large and small banks.

“It’s a nice irony,” said Karen Shaw Petrou, managing partner of Federal Financial Analytics, a consulting company. “Like so much of this crisis, this is an issue that involves the least worst options.”

That is open to debate.  The driving principle of this decision comes from a mutual antagonism between FDIC chair Shiela Bair and Treasury Secretary Tim Geithner.  The Treasury Department has already set up a $100 billion credit line for the FDIC to use if the agency finds itself in need, and Bair doesn’t need to get Geithner’s permission to access it.

However, for some reason, Bair would rather borrow the money from banks she has to regulate at the same time.  While the law allows for that, it sets up at least the appearance of a conflict of interest.  It also puts the government in the position of issuing bonds to float its own insurance agency that should run on dues and fees, bonds which will have to be paid back at some point, with interest.  It seems as though this decision will get made on the basis of personal animosity rather than rational thought, as this quote indicates:

“Sheila Bair would take bamboo shoots under her nails before going to Tim Geithner and the Treasury for help,” said Camden R. Fine, president of the Independent Community Bankers. “She’d do just about anything before going there.”

And of course, the biggest part of the story is the fact that the FDIC has to get a bailout in the first place.  Like the FHA, it appears that the front line of the two administrations over the past year has been underresourced and the problems underestimated.  Having the regulated bail out the regulators appears likely to make those problems worse in the long run.

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