Bank Nationalization and Re-privatization The US Experience · Bank Nationalization and ... –Consortium of banks provides a $5.5 billion funding line on an unsecured basis •Purpose

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Bank Nationalization and

Re-privatization – The US Experience

5th Deposit Insurance Corporation of Japan

Roundtable

Tokyo, Japan

3 March 2010

Daniel E. Frye

Federal Deposit Insurance Corporation (FDIC)

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Overview

• Limited examples of “nationalization of banks”

• Deposit Insurance National Banks (DINBs)

• Open Bank Assistance (OBA)– Continental Illinois National Bank

• Bridge Banks/Conservatorships– Indymac

– Bankers’ Banks

• The Case of Citibank’s partial US ownership

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Deposit Insurance National Banks

• 1933 – FDIC granted authority to form a new national

bank to pay off insured depositors

– Limited life (typically 30 to 60 days)

– Facilitate an orderly liquidation and minimize disruptions

• 1935 – FDIC granted authority to pay off depositors

directly

– Limited use of DINB after this (5 cases between 1935-1982)

– Authority used 4 times during current crisis

• DINB of Greeley ($1.8 Billion) 10 April 2009 – first since 1982

• DINB of Las Vegas ($1.5 Billion) 14 August 2009

• DINB of New Baltimore ($168 Million) 18 December 2009

• DINB of Kaysville ($745 Million) 15 January 2010

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Open Bank Assistance

• 1950 – FDIC granted authority to use OBA if it were determined

that the institution was essential to the community where it was

located.

• 1971 – First use of OBA

• 1982 – “Essentiality” test eliminated unless cost of OBA > cost to

liquidate. This change gave rise to most OBA transactions.

• 1991 – Least cost test imposed unless there were “serious

adverse effects on economic conditions or financial stability,” or a

“systemic risk failure.”

• 1993 – FDIC prohibited from using the DIF to benefit shareholders

of failing or failed institutions.

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Open Bank Assistance has been

Rarely Used by the FDIC

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Citibank and Bank of

America Ring Fence

Transactions

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Continental Illinois National Bank

• $40 Billion Total Assets on 31 March 1984

• The 8th largest insured institution and the largest commercial and industrial lender in the U.S.

• Pursued aggressive growth in high risk sectors during the late 70s and early 80s (energy, LDC).

• Largely wholesale funded (Federal funds purchased and negotiable CDs) with just $3 billion of insured deposits. Large network of downstream correspondent banks as well.

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• Rising nonperforming assets in early 80s

forced the bank to look to foreign markets

for funding.

• Continued deterioration led to rumors of

failure and precipitated a severe run by

foreign depositors in May 1984.

• Resolution begins on 17 May 1984

Continental Illinois National Bank

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• The resolution is a two-step process

• Interim Solution 17 May 1984

– OBA instead of payoff of depositors

•Potential liquidity crisis of other banks with significant foreign

deposits

•Decrease in foreign investor confidence in U.S. institutions

•Severe blow to unaffiliated depositor banks

•Negative effects on financial markets in general

Continental Illinois National Bank

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• Step 1 actions (interim solution) included:

– FDIC explicit guaranty that all depositors and general creditors of the bank would be fully protected

– $2 billion interim capital infusion in the form of subordinated debt

– Consortium of banks provides a $5.5 billion funding line on an unsecured basis

• Purpose was to stabilize bank and find a buyer with, or without, FDIC assistance. Those efforts failed due to the size of asset problems and poor deposit franchise among many other reasons cited by potential investors.

Continental Illinois National Bank

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• Step 2 actions (permanent solution) included:

– FDIC explicit guaranty that all depositors and general creditors would be fully protected is reaffirmed

– FDIC assumes $3.5 billion in Federal Reserve debt and receives loans of $2.0 billion and a note receivable for $1.5 billion

– FDIC injects $1 billion in preferred stock, $720 million of which is convertible into 80% of Continental’s

– FDIC granted option to purchase remaining shareholders’ shares if losses on the assistance transaction exceed $800 million (“make whole agreement)

Continental Illinois National Bank

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• Final resolution costs are $1.1 billion

• FDIC began liquidation of its convertible preferred shares in December 1986

• Final disposition took place in June 1991 to return Continental to private ownership

• Final disposition included acquisition and subsequent sale of original Continental shareholders’ shares due to the “make whole” agreement, essentially wiping them out

• Debt holders of Continental’s holding company were fully paid

Continental Illinois National Bank

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Bridge Banks

• 1987 – FDIC granted authority to establish

bridge banks.

• Temporary national bank organized to

maintain services for customers of failed bank

– charter is typically 2 years

• Designed to “bridge” the gap between failure

and satisfactory acquisition by a third party

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Bridge Banks

• Between 1987 and 1994, bridge bank powers

used 10 times usually in multi-bank holding

company situations

• Authority used 3 times during current crisis

– Indymac Bank ($30.0 Billion) closed 11 July 2008,

sold 26 March 2009

– Silverton Bank ($3.4 Billion) 1 May 2009 – Sale in process

– Independent Bankers Bank ($774 Million) 18 December 2009,

sold 13 January 2010

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IndyMac Bank FSB

• $30 Billion Total Assets

• The 7th largest S&L and the 2nd largest

independent mortgage lender in the U.S.

• Major lender in Alt-A, jumbo, subprime loans,

and reverse mortgages.

• Bank was funded by high cost deposits and

Federal Home Loan Bank (FHLB) advances.

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IndyMac Bank FSB

• Securitization market vanished in late 2007. Increasing delinquencies and losses on loans eroded capital and lowered bond ratings for securitized loans.

• IndyMac failed on 11 July 2008 and FDIC was appointed its receiver. IndyMac Federal Bank is created and placed into conservatorship.

• $600 Million in Uninsured Deposits

– FDIC pays 50% Advanced Dividend to uninsured depositors

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• Estimated Cost: $12.75 Billion

• FDIC bears brunt of losses since IndyMac

Bank’s funding consisted of:

– $10 Billion in fully secured FHLB Advances

– $19 Billion high-cost deposit base with little franchise

value

• IndyMac Federal Bank sold on 26 March 2009

just over 9 months after the closing

IndyMac Bank FSB

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Citigroup Inc.

• $2.1 trillion total assets (Citibank, N.A. $1.2T)

• $803 billion total deposits (including foreign

deposits)

• The largest consumer finance lender in the

world

• A world leader in credit card lending, mortgage

servicing, student lending, private banking, and

private wealth management

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Citigroup Inc.

• Citi is an original TARP recipient of $25 billion in October 2008 and significant beneficiary of the FDIC’s Temporary Liquidity Guaranty Program

• As crisis unfolds, Citi receives “exceptional financial assistance” in December 2008 in the form of:– $20 billion of additional TARP preferred shares

– $301 billion asset guarantee (OBA)

• Quality of capital concerns lead to conversion of > $50 billion in preferred shares to common equity, including the initial $25 billion US Treasury TARP investment

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Citigroup Inc.

• US Treasury becomes majority owner with a

34% ownership share of Citi as a result of the

conversion

• In December 2009, Citi raises > $20 billion in

equity

– Repays $20 billion of additional TARP preferred

shares

– Terminates the $301 billion asset guarantee

agreement

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Citigroup Inc.

• US Treasury originally intended to sell up to $5

billion in holdings coincident with the Citi capital

raise in December but the price of $3.15 per

share was below cost of $3.25

• US Treasury expects to liquidate its now 28%

interest in Citi over a 6 -12 month timeframe as

market conditions allow.

• There has been no active involvement in

management of the institution.

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Questions?