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Ch 19 2012 - 1 Chapter 19 Deposit Insurance Other Liability...

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1 Chapter 19 Deposit Insurance & Other Liability Guarantees (Deposit Insurance, Discount window, and TARP)
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2 Overview This chapter: Deposit insurance & other liability guarantees. The history of bank & thrift guarantees. The Federal Deposit Insurance Corporation (FDIC). The Federal Savings and Loans Insurance Corporation (FSLIC). Deposit Insurance schemes in other countries. Discount Window. Securities Investors Protection Corporation (not covered). Pension Benefit Guaranty Corporation (not covered). TARP
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3 Background Issues & History The FDIC It covers commercial banks and thrift institutions. It was created by the Glass-Steagall Act of 1933 as a response to the banking crises of 1930-33. During that period, some 10,000 banks failed. Original coverage: $2,500; Raised to $100,000 in 1980; Temporarily raised to $250,000 starting during the crisis in 2008. Permanently extended by Dodd-Frank.
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4 Background Issues & History Purposes of the FDIC Protect small, uninformed savers. Prevent contagious bank runs, such as occurred in the early 1930s. Bank runs are not always bad but contagious ones are very harmful. Until 1980, the FDIC worked great (there were very few bank failures and moral hazard did not seem to be a problem).
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5 Background Issues & History The FDIC continued Failures accelerated in the 1980s – See Figure 19-1. In 1991: Borrowed $30 billion from Treasury and still generated a $7 billion deficit. FDIC Improvement Act 1991: Prompt corrective action rules forced regulators to take action quickly as bank conditions deteriorate and close banks promptly. This worked up until the recent crisis. Big failures in 2008: IndyMac bank failure with estimated cost to the FDIC of $13 billion. 25 failure in 2008 140 failures in 2009. 157 failed in 2010. 74 failed in 2011 as of early October.
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6 Background Issues & History The FDIC continued FDIC reserves in March 2008: 52.8 billion September 2009, reserves were at a deficit of $8.2 billion Rate increases Prepayments of 3 years of deposit insurance premium required in advance. $500 billion in additional funding via the Treasury Department
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7 Background Issues & History The FSLIC It covered S&Ls (now called savings associations). It was in good shape till the end of 1970s. From 1979-1982, the increase in interest rates hurt S&Ls who borrowed short and lent long at fixed rates (had a negative gap, i.e., more rate sensitive assets than rate sensitive liabilities). Fed raised rates to fight inflation but ended up killing the S&L industry. High levels of failed thrifts between 1980-88 generated losses of $42.3 billion. FSLIC estimated net worth negative. Policy of capital forbearance. Regulators did not promptly close or take action against S&Ls with low or negative capital.
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