If Big Banks Were Allowed to Fail, Would the FDIC Need a Bailout?

BY busadmin  September 2, 2009 at 11:36 AM EDT

FDIC sign; via Flickr

Question: Some have said that big banks, like Citi or Bank of America, should have been allowed to fail. Given their size, could the FDIC really have covered the insured deposits? Or would the FDIC have to have been bailed out, with the possibility of taxpayers not getting the money back?

Paul Solman: The FDIC will not be allowed to fail. So being “bailed out” means, in fact, “replenished.” With taxpayer money, of course. Or more debt, OWED by the taxpayers of the future.

Whether or not the FDIC gets money back is an entirely separate matter. It depends wholly on the eventual value of the “assets” (loans) that the FDIC assumes when it takes over a bank. Presumably, they’re worth a lot less than the bank put into them. Otherwise the bank wouldn’t have gone under. But as we’ve seen with this week’s announcement that the Fed has made some $14 billion on a group of its emergency interventions, a government bailout doesn’t necessarily wind up in a loss. (See Monday’s Financial Times for a brief, clear write-up of the “profits.”)

As to why Citi and/or BofA weren’t taken over — well, the government put money into them, remember, and hoped that would be sufficient. Had they failed, the government felt it would have had an administrative nightmare on its hands. Maybe. Who knows?