Banking: Q&A With FDIC Chairwoman Sheila Bair

With the failure last week of California bank IndyMac, deposit insurance is suddenly a matter of significant concern. On Wednesday, NEWSWEEK columnist Daniel Gross sat down in Chicago with Sheila Bair, chairwoman of the Federal Deposit Insurance Corporation (FDIC), where she was on the first stop of a four-city roadshow to commemorate the agency's 75th anniversary and promote confidence in the ailing banking sector. NEWSWEEK asked Bair how many more banks might fall in the wake of the subprime mortgage mess, whether or not the FDIC really has enough cash to insure depositors and what keeps regulators like her up at night. Excerpts:

NEWSWEEK: How worried should people be about the banking system and about their deposits?
Sheila Bair:
Insured depositors should not be worried at all. Banks overwhelmingly are safe and sound. There are a handful that have some challenges, but the chances that your bank will close is remote. Even if it does, your insured deposits are absolutely safe. We took over IndyMac as a conservator last Friday, and insured depositors had access to their insured deposits over the weekend through their ATM and debit cards. By Monday morning, we opened [for] business as usual, and they had full access to insured deposits.

Current law says that depositors are insured for $100,000 in a particular account. Do the levels need to be adjusted higher?
The deposit insurance limits are set by statute. Starting in 2011, we can adjust the limits for inflation, and we will do so. It's also important for people to realize that you can get much more than $100,000 in deposits insured. Basic insurance is $100,000 for an individual account and $250,000 for a retirement account. But that means you can insure $100,000 in an account in your name, and then $100,000 in a joint account with your spouse and that your spouse can do the same. So you can get a lot of insurance coverage at your bank. And if you've exhausted the totals, you can go to another bank.

You came into office in June 2006, in the middle of a 30-month streak in which no banks failed. How is the FDIC preparing for the current challenges?
There [had been] some agency downsizing. We've been building up our staff, particularly those in supervision and examination and those who deal with closed banks. When I arrived in 2006, we were already working on guidance for nontraditional and subprime lending, because that was where we were starting to see deterioration. In early 2007, we started some roundtables with the securitization industry to try to figure out what we'd do with these rising delinquencies in subprime.

You were somewhat ahead of the curve in identifying the subprime problem and calling for the industry to take action. What accounts for that?
When I worked at the Treasury Department in 2001 and 2002, I had worked with [former Federal Reserve official] Edward Gramlich on subprime mortgage lending, and we were seeing bad signs then that some of these mortgages with high reset rates were not in consumers' long-term best interest. I've always felt that consumer protection and safe and sound lending are two sides of the [same] coin. And if you have an abusive product that doesn't serve your customers' long-term interest, it will come back to bite you. And that's exactly what we're seeing with these unaffordable mortgages. But I don't think anyone realized it would balloon into this. In the fall of 2007, I went public with proposals to systematically modify loans, including converting starter rates into permanent fixed rates. My concern was obviously for borrowers, but it was also for the health of the financial system. What I feared happening is happening to a large degree, that foreclosed homes going on the market is putting additional downward pressure on home prices and leading to a spiral. And this is having broader economic implications.

So, is there any good news for the banking system?
The good news is that most of these high-risk mortgages were provided outside [of] depository institutions. Even those [banks] that did [deal in high-risk mortgages] sold them off their balance sheets. Also, banks went into this period with very high capital levels and very strong earnings, so they were in a very strong position to weather the current credit environment. The overwhelming majority of banks in this country continue to be well-capitalized.

The deposit-insurance fund has about $52.8 billion in it. The IndyMac failure of last week will require you to spend about $4 to $8 billion alone, up to 15 percent of the fund. How many bank failures will it take to deplete the fund?
We don't make public projections. We've had five failures this year. There will be more this year and more next year. But in 1989, at the peak of the savings and loan crisis, we closed 534 institutions, and the troubled bank list had a couple thousand institutions on it. Today, there are about 90 banks on the troubled list.

But it's not just the number that matters; it's the size, right?
Larger institutions typically have lower loss rates than smaller institutions. My view is that I would be very, very surprised if an institution of significant size were to get into serious trouble. But we prepare for all contingencies.

So can you categorically rule out that taxpayers will have to help FDIC pay out claims?
I can only answer questions based on what I know now, but based on that, I don't think that would happen. Even in the most dire, worst-case scenarios in which we'd have to call on the federal government to backstop the fund, by statute we would be required to then make assessments on banks to pay the government back. Ultimately the industry that benefits from this insurance must pay.

What keeps you awake at night?
Not being able to get the housing market stabilized. There are a few little signs that things may be stabilizing but not enough to give me a lot of comfort. In terms of an immediate shock, certainly a mega-internationally active bank getting into trouble is something that we all worry about.