The FDIC has proposed stricter requirements on private equity investors who want to buy failing banks. The Wall Street Journal reports:
The staff proposal calls for investors to maintain certain capital levels at the acquired bank -- a minimum 15% Tier 1 leverage ratio for at least three years -- and would put other restrictions on ownership changes and where credit can be extended.
I can see why the FDIC wants banks to be well capitalized -- that's obvious. But I worry that this proposal could make things worse.
It's no secret the FDIC likes to be in control. I have heard and read numerous stories of its power struggles with the Treasury over the past year or so. It has made clear its desire to increase its the power and reach. I worry that part of the motivation here was a power grab, so to make sure it was resolving the banks, rather than allow as many private equity investors to take control instead.
Here's what FDIC Chairman Sheila Bair says, from the WSJ:
"We want to maximize investor interest in failed banks," FDIC Chairman Sheila Bair said. "On the other hand we don't want these institutions coming back" and failing again.
My only response is, "Why not?" What's the harm in trying to let the private sector take care of the problem instead of relying on a government agency who is already overwhelmed? If there's an investor out there willing to take on the risk involved with rehabilitating a failing institution, shouldn't it have the opportunity to do so?
Private equity firms specialize in doing exactly this. However, if they do not have enough capital initially to meet the new requirements, they should still be allowed to give it a shot. Their business plan would certainly involve ramping up that capital over time: ultimately, for the bank to have been a good investment it will have to be well capitalized eventually.
So what happens if the private equity firm tries and fails? The bank gets resolved by the FDIC. That's just what would have happened anyway, so what's so bad about that? The FDIC should not restrain the private sector from trying to bring these banks back to life first. After all, that outcome is a lot better than liquidation through the FDIC.
Failing banks should be allowed to fail, and they shouldn't be given life support willy-nilly. If you travel around many American cities, especially in the suburbs, you will see independent banks abound, the product of enormous growth during the last ten years or more and a host of high wealth individuals and their friends who felt like starting banks. These banks should only be allowed to exist if there is someone with enough capital, as the FDIC is stipulating, to ensure they have a chance at surviving. Otherwise, a great number of these banks will remain as vanity projects gone wrong and will continue to suck money unnecessarily from the economy. Just because a bank happens to exist - just because it has a front door and a parking lot - doesn't mean it should exist, and finally it seems the FDIC is actually promoting this idea.
http://www.enewse.com/
On the other hand, you could argue that this is an effort to do something long ignored--restore trust in the system, which is going to take some straight-talking of the kind Sheila Bair offers. Rob Johnson, an economist on the group of experts for the UN's financial reform panel, makes a compelling argument that trust is a kind of capital, too, and we need it as much as we need cash these days.
Right or wrong, she's at least saying things that sound reasonable, plausible, and direct. Not, "Trust us, we can do the math and you can't."
Sheila Bair is an idiot.
(probably the reason she's getting such fawning coverage from the New Yorker, etc.)
If people have to hold 15% capital, their return on capital will simply be lower. Why invest? Banking - truth be told - is not that profitable a business.
She really doesn't understand what business the FDIC is in. She wants to save the world, modify every mortgage in the country and become "systemic" regulator. She runs a deposit insurance fund with a narrowly defined focus and she is a lifelong Washington hack who sees opportunity to be an "enlightened Republican". I'm sure she'll be promoted of even run for office although she's scarcely qualified for the one she has already.