Tuesday, February 14, 2012

OMB Stays Out of Touch With Reality

"What OMB has here is completely out of touch with the realities of the FDIC's fund." –James Chessen, American Banker, February 14, 2012

The Obama Administration’s proposed 2013 budget, released yesterday, predicted that the FDIC’s deposit insurance fund (DIF) will fall into negative territory despite recent trends and FDIC forecasts which suggest otherwise.

The Administration said that the fund will fall into deficit “driven in part by higher projected bank failures and constant assessment schedule, which slows down the DIF reserve growth rate.” In fact, recent data shows an improvement in the DIF, a trend the FDIC projects will continue. Furthermore, given the strength of the banking industry, it is unlikely bank failures will accelerate and in fact, should slow.

The Administration’s budget predicts that the reserve ratio will fall into negative territory, remaining negative until 2015. In reality the fund balance has improved for 7 consecutive quarters and now stands at $7.8 billion, 0.12 percent of insured deposits. The FDIC predicts1 the DIF coverage ratio to continue improving, reaching 1.15 percent by 2018.

The Administration’s budget believes the deterioration in the DIF will result from in $33 billion in bank failure losses for 2012 and 2013 combined. In order for this to occur, bank failures would have to more than double from their 2011 levels. In 2011, losses from bank failures were just $7.2 billion, down from $24.2 billion in 2010 and down even farther from the peak cost in 2009. The FDIC’s forecasts1 are well below these levels, predicting just $19 billion in losses from 2011 through 2015. The OMB’s estimate implies bank failure losses averaging $16.5 billion per year, while the FDIC’s own budget forecasts less than one quarter of that, averaging $3.8 billion.

Given the strength of the banking industry, it is unlikely that bank failures are set to increase. Banks added over $24 billion in equity capital during the third quarter and $288 billion since 2008. Total industry capital is almost $1.6 trillion. Moreover, the FDIC’s problem bank list shrunk for the second consecutive quarter, with problem bank assets shrinking as well. This is a trend the FDIC sees continuing. In a September statement , the FDIC noted that “improved prospects for individual troubled banks, an expected continued decline in the pace of CAMELS rating downgrades, and a reduction in the rate at which troubled banks fail are responsible for the modest reduction in projected losses to the DIF over the next five years.”1

Of course, banks are inseparably tied to their local economies. Should the economy falter, there could be an uptick in bank failures. However the outlook – including that of the Administration – is for the national economy generally to improve over the next two years. This improvement should support a strengthening banking industry and DIF.

"They're using old numbers and they haven't looked at the trends. Losses last year were half of what the FDIC even expected. Losses this year are going to be a lot less,” said James Chessen.

1 Update of Projected Deposit Insurance Fund Losses, Income, and Reserve Ratios for the Restoration Plan, Arthur Murton (Sept, 27,2011)

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