Big banks benefit as smaller banks fail

One might think that 89 bank failures since the start of 2008 is bad news, but not for other banks. Many banks instead see this as a great opportunity to expand their customer base on the cheap, and the FDIC is helping to ease the way.

Many of the banks who are taking advantage of the current banking crisis are the big boys -- JPMorgan Chase (JPM) purchased WaMu and private equity groups took over IndyMac and BankUnited. Regional banks are getting their fair share of the pie as well.

Minneapolis-based U.S. Bancorp (USB) is one of the regional banks taking advantage of the situation. Its purchase of Downey Savings and PFF ended up being the third largest deal by assets for failed banks last year. Zions Bancorporation (ZION) is another big winner. It picked up four banks from the FDIC to bolster its customer base and help it grow.

While big banks are given the opportunity to grow, the FDIC's deposit insurance fund is taking a big hit. This year the FDIC had to raise its fees to banks to rebuild the fund's depleted balances. If the fund fails, it will be the taxpayers that must help to foot the bill.

The U.S. Bancorp and Zions deals alone cost the FDIC deposit insurance fund $3.6 billion. In addition to this initial loss, the FDIC also agreed to so-called loss-sharing agreements on some of the transactions. That means the fund could end up paying additional costs on troubled assets taken on by the banks. It's this protection on future losses that is most alluring to regional banks and their investors. They can grow their bank on the cheap and minimize any potential future loses.

In March, FDIC's Chairman Sheila Bair sent out the first warning signs of trouble ahead. She warned that "a large number" of bank failures may occur through 2010 because of "rapidly deteriorating economic conditions." That makes it necessary, she said, for the FDIC to levy a one-time fee on member banks. She went on to say in the letter that "Without substantial amounts of additional assessment revenue in the near future, current projections indicate that the fund balance will approach zero or even become negative." The FDIC expected to raise about $27 billion with this special assessment. So while some banks gain big by taking on failed institutions on the cheap, others are hurt with a special assessment.

The FDIC's first priority is to resolve a bank failure in a way that's least costly to the deposit insurance fund, which is backed by fees by banks. But, the FDIC also has a credit line with the Treasury Department that it can use if the fund runs out of money. That's how the taxpayers could be on the hook if the fund gets in trouble. The failures since 2008 have left the fund at 75 percent below the statutory minimum. If the FDIC can't rebuild the deposit insurance fund quickly enough, the FDIC will need to tap this credit line, which of course is funded by our tax dollars. So right now the banks are growing on the cheap and the taxpayers may end up footing the bill.

Lita Epstein has written more than 25 books including Reading Financial Reports for Dummies.

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