FDIC’s Bair Warns of ‘Backdoor Bailouts’ in Oversight Reform

The chief of the Federal Deposit Insurance Corp., the agency that protects Americans’ bank accounts, today warned of possible “backdoor bailouts” that are written into the current draft of the Senate’s financial oversight reform bill.

FDIC Chairman Sheila Bair, an outspoken critic of the government’s bailout of the biggest banks, referred to the reform’s potential loophole in a prepared speech before the annual meeting of the Independent Community Bankers of America today in Orlando.

Bair praised the community banks for “hanging in there” and doing a better job of providing credit that their much larger competitors.

She added that the largest banking organizations accounted for more than 90 percent of the total drop in bank lending in the fourth quarter of 2009. And that the smallest banks – those with assets less than $100 million – actually increased their loans by more than 0.5 percent.

She then raised an almost ominous concern of a possible loophole in the financial system reform bill unveiled by Senate Banking Chairman Christopher Dodd this week. The reform calls for an oversight council and fees from the largest banks to replace the “too big to fail” bailout philosophy that emerged at the peak of the financial crisis.  

“However, we do have serious concerns about other sections of the Senate draft which seem to allow the potential for backdoor bailouts through the Federal Reserve Board’s 13(3) authority,” Bair said. “We will work closely with the Senate to make sure there are no loopholes around the carefully crafted resolution procedures. If the Congress accomplishes anything this year, it should be to clearly and completely end too big to fail.”

Bair is referring to the Fed’s emergency lending authority, the law that enables the Central Bank to craft its bailout strategies as it deems necessary.

In the Senate reform bill’s language, the Fed is required, in consultation with the U.S. Treasury, to come up with policies and procedures to “ensure that any emergency lending program or facility is for the purpose of providing liquidity to the financial system, and not to aid a failing financial company, and that the collateral for emergency loans is of sufficient quality to protect taxpayers from losses.”

Bair did not specify this language, but it leaves open the possibility of a “too big to fail” type of Fed lending facility.

“Never again should taxpayers be asked to bailout a failing financial firm,” Bair said in her comments to community bankers. “It’s time that the big players understand that they sink or swim on their own.”

The Senate banking committee is expected to begin debating the reform bill’s provisions next week.