Friday, September 18, 2009

This Week in Bank Failures

Most people in Washington want to keep the story of the Wall Street meltdown from getting out. They want to persuade you that nothing happened, and even if it did, it’s all behind us now — and none of that is true. President Obama in a speech on Monday proposed to let Wall Street write its own new, more restrictive regulations. The purpose of that nod to Wall Street, I am convinced, was to reassure financial executives at companies like AIG, Freddie Mac, and Goldman Sachs that new regulations will not force anyone to reveal the things people did, and continue to do, to create the large-scale financial destruction that we have seen.

The story may get out anyway. On Monday, a federal judge rejected the proposed settlement between the Securities and Exchange Commission (SEC) and Bank of America over the secret bonuses Merrill Lynch paid to its employees shortly before it was acquired by Bank of America. Keeping such information from stockholders is a violation of the fiduciary duty of a corporate officer. The judge questioned why no individuals had been indicted and suggested, in so many words, that the SEC was participating in a coverup. That case will go to trial next year. Separately, New York State is preparing charges against several of the Bank of America executives involved. In the federal trial, it seems quite unlikely that any Bank of America executive will agree to testify, forcing the board of directors to remove them — assuming that Bank of America does not go under first.

Then on Thursday, California Attorney General Jerry Brown announced an investigation into the role of rating agencies. Based on nothing more than frivolous risk management theories, rating agencies such as Moody’s and Standard & Poor’s assigned investment-grade ratings to securities derived from junk assets including non-performing mortgage loans. The SEC is considering new rules for rating agencies that would require, at least, better disclosure.

Regardless of these initial steps toward investigation and reform, there are fears that the story might never get out, and these fears were reinforced on Wednesday as bloggers were sifting for any possible connections in a coast-to-coast string of high finance deaths, most of them labeled suicides by the police and press, but without nearly enough indications to say so conclusively.

There may be a psychological explanation for a cluster of financial suicides, though. It seems reasonable to imagine that many people working in finance found the events of mid-September 2008 traumatic. For them, the return of the exact same time of year could trigger post-traumatic episodes that, if severe enough, could lead to suicide. That, of course, is not to say that a series of seemingly related and suspicious deaths do not need to be investigated.

Ireland is debating its own version of a Wall Street Bailout, which goes by the name of Nama. The proposal is to spend $132 billion to buy trouble assets from banks. Most of the assets would be loans and real estate projects connected to the country’s real estate collapse, which was similar in scale to that of California or Latvia. Because of political opposition, the program will probably be scaled back to less than half of the proposed amount.

With the number of bank failures in the United States this year set to pass 100 next month, the FDIC says it is looking into creative financing options that might let it avoid borrowing from the Treasury. The FDIC is likely to run out of cash in about two months, but says it is reluctant to use taxpayer money, even temporarily. Yet its other options appear worse. It can possibly squeeze about $20 billion more out of the banking industry over the next year or so, but only by causing considerable stress to the banks. One scheme it tested this week to get higher prices for failed bank assets appears to involve considerable financial risk to the FDIC if the U.S. economy does not quickly improve.

Tonight in Indiana, Irwin Union Bank and Trust Company failed. It had $2.7 billion in assets and $2.1 billion in deposits. Staggering from mortgage losses, it had been operating under a consent decree since last October and had been struggling all year to raise capital. It sold three of its locations to Cincinnati-based First Financial in August, and it had a plan to sell $34 million in stock, but said in an SEC filing that this would not be nearly enough and it did not know where else it could turn. Tonight, First Financial is purchasing the remaining Irwin Union offices, deposits, and assets. First Financial is paying the FDIC a 1 percent premium for the deposits. That would be a typical premium in a normal year but this year, indicates aggressive expansion by the acquiring bank. The acquisition does allow First Financial to extend its geographical base around Cincinnati while establishing a foothold in five southwestern states, where 9 of Irwin Union’s branches were located.

An affiliated bank based in Kentucky, Irwin Union Bank, also failed tonight. It was less than one fifth the size of Irwin Union Bank and Trust Company and was in similar financial condition, and it is also being acquired by First Financial. The FDIC estimates its costs for these two bank closings at $850 million.