On the south central plain of Oklahoma is the small town of Lindsay, population (as of the 2020 census) under 3,000. Founded in 1901, it’s a working class small rural town with a primarily agricultural economy supplemented by servicing the nearby oil production industry.
The First National Bank (FNB) of Lindsay was chartered in 1902. Last month it was taken over by the federal government. You can read about it here.
What you won’t read about in that news report, essentially an FDIC press release, is why it should matter to you.
Have you ever heard of a “bank bail-in”? Some of you may have — but I’d venture to say most have not. I only learned about it through my recent crash course in economics.
12 United States Code 5384, Section 204(a)(1), reads, “creditors and shareholders will bear the losses of the financial company”. To cut to the chase, if you deposit your money in a bank insured by the FDIC, and that bank ‘fails’, congratulations, you may be a ‘creditor’ who will share in the ‘losses’ of that bank.
I’ll explain after some brief history.
Section 204(a)(1) is a provision of the 2010 financial reform legislation passed by the Congress, and signed into law by President Barack Obama, in response to the 2008 “financial crisis”. Called the Dodd-Frank Act, named for the Senate sponsor Chris Dodd (D-Conn), and House sponsor Representative Barney Frank (D-Mass), it was supposed to remedy the causes of that “crisis”.
You can read Dodd-Frank in its entirety here, if you can stay awake. (I fell asleep twice just trying to navigate Section 204.)
As with most legislative efforts enacted in response to a “crisis”, there is scant evidence it works. The “failure” of the FNB, and far more spectacular (and media-covered) failure of the Silicon Valley Bank (SVB) in Santa Clara, California, in 2023, are testaments to how useless Dodd-Frank has turned out to be.
Aside from the disparate level of media coverage between the collapses of SVB and the FNB, there is a very significant difference in how much their depositors were/are going to lose. There is also the difference in who those depositors are.
FNB depositors are the farmers, and small businesses, of that rural community. Depositors of SVB were ‘tech’ billionaires, and Hollywood celebrities. Which could explain why SVB was “bailed out” by the federal government — despite the fact that such “bail outs” were supposedly outlawed by Dodd-Frank.
Section 204 was specifically intended to prevent the ‘taxpayer bailout’ of institutions that so offended the public in the 2008 financial crisis. The legislators behind Dodd-Frank declared it was outrageous that rich Wall-Street financiers for the most part suffered no losses from their mismanagement at the expense of the taxpayers.
Who could argue with that? Certainly not me.
So what did the self-righteous Congressional leaders do to assure it never happened again? They transferred the burden from taxpayers to the folks who trust their hard-earned money to bankers by depositing it in their banks.
Instead of bankers being saved by government bail-outs, they are now to be saved by depositor bail-ins. When you deposit your money into a bank, it is no longer your money. Under Dodd-Frank you have actually loaned your money to the bank for them to invest and (hopefully) make a profit — which they will share with you by paying interest to you (however small) on the money you ‘loaned’ them.
Here is just one of many links explaining far better than I can how bail-in works.
https://www.bschools.org/blog/fdic-and-bank-bail-ins Pay particular attention to this sentence,
“What most people didn’t realize is that under a bail-in operation, funds belonging to depositors can indeed be used to help recapitalize the bank.”
It goes on to note that the bail-in provision (supposedly) only applies to those who have deposits in the bank exceeding $250,000. Up to that amount your deposit is still (supposdedly) insured by the Federal Deposit Insurance Corporation (FDIC) – a (supposedly) privately funded, federally chartered ‘corporation’ formed as part of the Great Depression-era ‘New Deal’ to (supposedly) protect us regular folks from losing our life savings when banks fail.
One might ask why should we be concerned with a bail-in if your bank goes belly-up, if you aren’t rich enough to have over $250,000 in any bank account. That would seem to apply to most of us regular folks, right?
A legitimate question which I’ll try to answer.
If you dig deeper into Dodd-Frank you’ll find that if the FDIC doesn’t enough money to cover all the losses (up to $250,000) suffered by all the depositors, then it can apportion what it does have among all those who incurred losses. Meaning you may get only a percentage of your deposit back.
Which brings us back to the failure’s of SVB and the FNB. Most of those tech billionaires and celebs whose money was in SVB had far more than $250,000 deposited there, and so stood to lose much of their assets.
So even though Dodd-Frank (supposedly) made taxpayer funded government bailouts of banks illegal, the federal treasury bailed out SVB depositors far above $250,000. For example, two SVB depositors were:
“Sequoia Capital, the world’s most prominent venture-capital firm, got covered the $1 billion it had with the lender. Kanzhun Ltd., a Beijing-based tech company that runs mobile recruiting app Boss Zhipin, received a backstop for more than $900 million.”
After the SVB bailout, Congress staged the usual political theater by holding a hearing to demand answers from the Biden administration. Treasury Secretary Janet Yellen explained that SVB was (wait for it) “to big to fail” – the exact reason given by the Bush administration for the 2008 bail-outs, which so offended Congress that they (supposedly) outlawed them in Dodd-Frank.
Of particular interest in that Senate hearing was the dialogue between Yellen and Oklahoma Senator James Lankford, in which Lankford asked Yellen, “Will the deposits in every community bank in Oklahoma, regardless of their size, be fully insured now? Are they fully covered … every bank … every community bank in Oklahoma, regardless of the size of the deposit? Will they get the same treatment that SVB just got?”
To which Yellen replied, “A bank only gets that treatment if a majority of the FDIC board, a super majority of the Fed board and I, in consultation with the president, determine that the failure to protect uninsured depositors, would create systemic risk and significant economic and financial consequences.”
In other words, “too big to fail”.
So President Joe Biden, his Secretary of Treasury, and a majority of the FDIC Board (whom Biden appointed) decided the big tech, and celebrity, depositors in SVB should get bailed out for all their deposits.
It remains to be seen how much of the total assets of the FNB will be covered by the FDIC. Estimates are there may be over three million dollars that will be uninsured. By SVB standards that’s a pittance, but it’s a lot for a rural small town.
And what happens to the rest of us, if the FNBis just the ‘canary in the coal mine’ to be followed by similar collapses – including a ‘too big to fail’ bank. Will the FDIC have enough to cover all of our deposits. Will, as Senator Lankford asked, all of our deposits in every bank be fully insured ?
Another little known response to the SVB collapse was the creation of the Federal Reserve Bank Term Funding Project (BTFP) which (supposedly) protects bank investments in long-term U.S. Treasury bonds. As I’ve attempted to explain before, it ain’t easy to understand anything the Federal Reserve (the Fed) does and the BTFP is no exception – but here is a simplified explanation.
In a nutshell, the BTFP has essentially been a scheme to prop up the banking system. It’s tied to both the Fed interest rates, and U.S. treasury bond interest rates.
It seems (in the words of financial guru Andy Schectman) that “the Fed has lost control of Treasuries” (meaning Treasury bonds). A significant factor in that loss of control, is that financial institutions no longer trust the inflation, and unemployment, numbers being reported by the current administration which the Fed is claiming to be relying on to make policy decisions. And the BTFP scheme has become integral to those decisions.
Coincidentally(?) the BTFP expires on November 6, 2024 — the day after the election.
If Trump wins, and the lame-duck Biden administration doesn’t renew the BTFP… then when the banking system has the inevitable 2008-level failure, who do you suppose the media will blame for it?
Is there a reason the man who is perhaps the most savvy investor of our lifetime, Warren Buffet, is selling off his holdings in Bank of America?
I hope I’m wrong, and there won’t be another financial crisis. The last one put a big dent in my retirement plan. But in my endeavor to learn about economics, all the experts I listen to are saying the banking house of cards built by the Treasury and the Fed since the SVB collapse is about to come tumbling down, and the FNB is just the beginning.
The FDIC says the FNB failed because of possible fraud. Yet as the law journal article I linked above says, “[T]he legal frameworks presently in place for [Dodd-Frank] bail-in raise serious doubts as to whether they can accomplish their envisaged purpose [prevention of high-risk conduct by bankers].”
In other words, the current scheme of bank regulation does nothing to dis-incentivize the “moral hazard” of risk-taking behavior by private bankers. And Congress has made sure that (unless you are a rich celebrity) it’s your money that’s at risk from that hazard.