Friday, September 26, 2008

This Week in Bank Failures

Goodness me!

I don’t usually speak in such strong language, but I’m just so surprised at how quickly bank failures went from being the elephant in the room that no one wanted to mention to being the obsession of a nation.

Three weeks ago when the Republican National Convention was wrapping up and I was writing about Silver State Bank of Henderson, Nevada, a story that for a brief period I thought that AP was not going to cover, it seemed that no one was paying attention to the banks. The monotonous parade of bank failures had almost fallen out of the news radar.

Nineteen days later, in a prime time television address, the President of the United States raised the specter of bank failures as he basically begged the public for money — $700 billion of it, which he was hoping would avert an economic crisis.

But the President’s plan was so disastrous in conception and so unpopular with the public that it never found any traction. By Thursday, a chorus of outraged citizens slammed Congress’s web servers, keeping the House of Representatives effectively offline for most of the afternoon. I have never seen anything like it.

House Speaker Nancy Pelosi and other Congressional leaders thought they could put together a compromise plan that could pass Congress, then had to take that back Thursday afternoon, as around 100,000 voters took to the streets demonstrating to stop the bailout. Members of Congress we have heard from are talking about an overwhelming or even “unanimous” opposition to the plan among constituents, along with a level of anger and resentment they don’t normally see in budgetary matters. With Election Day barely a month away, where will you find over a hundred Representatives who are willing to jeopardize their own re-election by voting yes on a high-risk Wall Street bailout plan that many experts say would not accomplish anything constructive? It is a situation Pelosi has not faced before as Speaker.

One of the problems with the Wall Street bailout plan is that no one in Washington seems to realize how little $700 billion is in comparison to the size of the problem. Other guesses, from people who know more about banking, suggest the cost for the Paulson plan is 7 to 14 times that amount. It turns out that the $700 billion price tag was basically pulled out of a hat:

“It’s not based on any particular data point,” a Treasury spokeswoman told Tuesday. “We just wanted to choose a really large number.”

As we found out Friday afternoon, it really isn’t about the economy. An economic stimulus package died in the Senate, after Bush threatened to veto the bill, saying $56 billion was too much to spend to rescue the economy.

And so Bush’s implied promise that the $700 billion Wall Street bailout would get the economy moving again and stop the bank failures is probably no more than posturing. There is really nothing in the plan to do either. When a bank keeps losing money, there is nothing that will keep it in business, a point that was underscored last night by the largest bank failure ever.

The FDIC took over Washington Mutual (Wamu) and turned it over to JPMorgan Chase, who paid almost $2 billion for it. Wamu had been in obvious decline for months, with no hint of a turnaround on the horizon, and it was a relief and something of a surprise to see another bank willing to buy it. But the FDIC had to take over Wamu first so that Chase could get just the bank, without the holding company.

This is the largest bank failure in history. Until this week, the FDIC record was a $40 billion bank closed in 1984. Wamu was 8 times as large, with over $300 billion in assets. The size is roughly equal to the total of all bank failures received by the FDIC over the last 18 years.

Unlike other recent FDIC takeovers, JPMorgan Chase did not merely acquire the deposits of Wamu, but the entire bank. This simplified things for account holders. Overnight, a note was added to the Wamu web site explaining that nothing would be changing for customers until next year.

Chase now has 5,400 branches. It will decide later which are extra and can be closed. It will eventually put the Chase name on all the branches.

JPMorgan Chase has taken its own blows from the economy lately, so is it healthy enough financially to take on the potential troubles of Wamu’s accounts? From everything I can see, it is. Its profits are down because of the state of the economy, but not disturbingly so. And there will be cost savings in the combination of the two banks. JPMorgan Chase says those savings will eventually cover its merger costs.

Way back on Tuesday, which seems ages ago now, I got a note in the mail from Wamu. The headline read, “0% FIXED APR until January 1, 2010.” A paper mockup of a credit card was glued to the letter. Knowing Wamu’s predicament, I was torn. What would happen if you applied for a credit card from a bank that went under before they received your application in the mail? But my conscience said that a morbid curiosity was not a good reason to do business with a company. The application is still on my desk.

Years ago, I did a significant amount of work for Wamu — my usual work, helping them understand their customer base better. It helped them guess more accurately which customers might be looking for which services, so they could sell more services faster. In the end, this may have helped them fail a little faster, and that is a sobering thought. Wamu’s decision to offer me a credit card certainly came out of the same kind of work that I did on their customer base (and could even have been derived from my actual work — I have no way of finding out), as they analyzed the data from my 2006 mortgage inquiry and guessed I might want to be a credit card customer. But the teaser offer they selected for me was emblematic of the failure of Wamu’s business model. Wamu was committed to signing up customers, but not so committed to making sure it made a profit from each customer.

This takeover on a Thursday night breaks the FDIC’s Friday night pattern, but I wouldn’t read too much into that. It seems to me that if the FDIC worked out a deal with JPMorgan Chase they would want to go through with it that same day if possible, before JPMorgan Chase had a chance to change its mind. If there had been no buyer, the FDIC would have suffered billions of dollars in losses on the takeover.

The FDIC will shortly be considering an increase in the insurance premium it collects on all bank deposits. That increase, it is hoped, will cover the FDIC’s extraordinary costs during this run of bank failures.