" So much for promises backed by the full-faith and credibility of the United States government!'

Sheila Bair, the head of the FDIC and John Hempton's favorite Federal Official, gave a talk at an awards ceremony last night:

"Several years ago when they lured me out of the serene world of academia to take this job, I was given several promises. They promised me it would be regular hours, nine to five, Monday through Friday, no weekends. They promised me trips to the Swiss Alps to talk about global capital standards. And they said my only headache would be whether Wal-Mart should own a bank. So much for promises backed by the full-faith and credibility of the United States government!'

Highly comical.

"They were right about one thing: I'd be getting a lot of phone calls from reporters at the American Banker. All those calls and interviews resulted in good, solid, well-balanced stories. At least that goes for most of them!"

Was this award ceremony in the Catskills?

"Honestly, the financial press has been great to work with. But now the mainstream media have discovered the FDIC. They want to talk about what we do, and they want it in five-second sound bites. So I can get lost translating the jargon into common English. I was on a TV news show in October talking about the need for our new temporary liquidity guarantee program. I said the program was intended to bring down LIBOR. The interviewer, of course, asks me: "What's LIBOR?" You should have seen the look on the poor guy's face when I said: "about 400 basis points."

It's good to know you can always get a laugh belittling the press. It's like ethnic humor.

"All kidding aside, I want to take this opportunity tonight to talk about some of the lessons of the ongoing crisis in the financial services industry, how we got here and what the future may look like."

All kidding aside, this is when I get really humorous.

"As you all know, it's now official: the U.S. has been in recession for the past twelve months. While most of us suspected this was the case, the announcement formalized for the nation the daunting challenge of how to emerge from what could become the longest recession in post-World War history."

It's like waiting for Rosh Hashanah to be declared in the Talmud. I can't believe that this decision was so momentous. I need to go back and look at it.

"So, how did we get here?"

How could you possibly know? You were waiting for a little economic commission to declare the blooming obvious?

"Clearly the two biggest factors are the boom and bust in housing and a dramatic loss of confidence in the financial system. It turns out that securitization – the process that transformed the credit markets – is related to both of these. While securitization has created market efficiencies and broadened and deepened the credit channels, the current crisis exposes a few of its weaknesses."

The two main causes of this crisis are:
1) The bubble and bursting of the housing market ( This is the crisis, isn't it? )
2) Loss of faith in the financial system ( Same here )
If the crisis isn't one of these two, then what is it? Unemployment's awful, but it's not the cause of the crisis, but a consequence of it.
Securitization binds 1 and 2, and is a blessing and a curse. To everything, turn, turn, turn...

"Chief among these is misaligned incentives. Mortgage brokers, originators, underwriters, ratings agencies and investors all got paid in ways that created incentives for maximizing their own short-term profits, while allowing the accumulation of huge, undetected long-term risks."

This is more like the cause of the crisis, or 1 and 2. Of course, since they were paid, and that's an incentive, surely it's morally and legally justified. Did someone put a gun to these people's heads and demand that they take the money associated with these incentives? As well, maybe the incentives are more like magic spells, rendering the victims morally and ethically vacant. Let me just ask this: Who created these egregious incentives? Lucifer? Or did people do this? Maybe the very same people who took the incentives created them?

"Originators and underwriters usually did not retain a financial stake in the long-term performance of their loans. They got paid on day one, when the loan closed or the security was issued."

They sound like grifters.

"Securitization drove the boom in housing. Issuance of private residential mortgage-backed securities totaled over one trillion dollars in 2005 and 2006. But as of the third quarter of this year it had declined to virtually zero. Investors have lost faith in many of the market practices that securitization was built on."

That loss of faith is what I call an Existential Crisis, altough she makes it sound more like the Greeks giving up on Zeus.

"Securitization will eventually come back. But fundamental reforms will be necessary to ensure that the incentives are aligned to produce transparency, stability and confidence by all market participants."

But when it returns, we'll be ready for it this time. Fool me once, shame on you. But fool me twice, well, quite frankly, that's really cruel.

"This loss of confidence required the government to step in to the financial markets in unprecedented ways and to enable the banking system to be the engine that helps drive the country toward economic recovery. During the last six weeks, the FDIC Board has invoked the systemic risk exception three times in order to provide assistance outside of our normal least-cost requirement."

I wonder if invoking the "Systemic Risk Exception" might have helped cause the loss of confidence? How about calling it "The Well Thought Out And Effective Plan That We've Prepared For These Very Circumstances" instead? To send out an SOS three times in six weeks doesn't sound like the train is being driven by an engineer, but rather by a frightened passenger.

Also, saying "unprecedented" really means " so out of the blue that we couldn't have been expected to see it coming, or know what to do", which also doesn't inspire confidence. Just deal with the problems as best you can, with as little waving of hands as possible. We can't expect more than that. You need to be truthful, but not a thesaurus of adjectives all meaning panic.

"These actions were undertaken with the goal of preserving the stability of our system as a whole. We stand ready to take additional action if necessary to maintain the stability of our system."

It's called a resignation.

"We're also raising deposit insurance premiums and rethinking our approach to assessing premiums according to risk. These measures are not intended to impose hardship on the industry during a difficult time. They are intended to restore the deposit insurance fund – and the public confidence that it generates – to its proper size and to make our system fairer toward those banks that work hard to contribute to financial stability."

We're raising the taxpayer's exposure to these guarantees, so we're going to tighten the conditions for lending. This I like.

"More broadly, the FDIC, the Treasury and the Federal Reserve have worked together to put in place a number of extraordinary programs to bolster confidence and restore stability to our financial markets."

It might not look like it, but we're acting in concert as best we can.

"The Treasury instituted the Capital Purchase Program through the TARP, and the FDIC created the Temporary Liquidity Guarantee Program. Treasury's program is designed to bolster the capital base of FDIC-insured banks and their holding companies, and to give them the capacity to recognize losses and support new lending. The FDIC's guarantee program is designed to stabilize the funding structure of these institutions. This will help ensure that banks can roll over their existing liabilities when they come due, and expand their funding base to support the extension of new credit."

We've given the banks a lot of capital and raised the guarantees on personal accounts.

"So far, this program seems to be working well. About $37 billion of debt was issued by participating institutions as of Tuesday. The premiums we're charging for the debt guarantee program are significantly higher than those charged for deposit insurance. We expect to make a profit on this program, and we'll put the proceeds into the deposit insurance fund."

This is one program that she's focusing in on, I believe. The one guaranteeing the bonds issued by some individual banks.

"The Federal Reserve has initiated a number of new lending programs over the past year, to provide additional liquidity to the markets."

Let's spare ourselves all the Fed's moves.

"We're working hard to ensure that the benefits of these programs will work just as well for small and mid-sized institutions as they do for the largest institutions."

I actually believe that they do understand that this program can't end up being viewed simply as a bailout of the financial industry. This seems obvious to me, but a number of people don't see this.

"Expanded Safety Net Must be Temporary

I'm a capitalist. I believe in markets. The expansion of the federal safety net which has been so necessary in this crisis cannot be considered a permanent fixture of our financial system. Even as we manage the crisis, we need to plan ahead in terms of how we scale back these protections against systemic risk. That means that banks will need to improve their own processes for managing credit risk, market risk, operational risk, and liquidity risk."

This is certainly my position.

"Going forward, you will need to convince your customers, your counterparties and your regulators that you have covered all the bases ... and that you truly are prepared for the worst. And the sooner you prove you have things under control ...and can keep them under control ... the sooner we can move back to a system where your shareholders earn the rewards, but bear the full consequences of the decisions that you are paid to make on their behalf."

Yes.

"Lessons for Bankers and Bank Regulators

The current crisis highlights both the important role that depository institutions play in smooth functioning of credit markets and in the overall economic well-being of the country. The FDIC hosted a conference a few weeks ago at which Paul Volcker and Bill Seidman, your honoree last year, each delivered some remarks. Both of them stressed what they saw as the central importance of a stable bank deposit franchise in the functioning of our financial system."

Let's see, Volcker dealt with Inflation, and Seidman the S & L Debacle. Oh yes, we've learned quite a bit about how to land in a mess again.

"A strong deposit base is a source of stability, and is the reason bankers can take the long view when it comes to managing risks. And most of all, core deposit funding is the anchor that holds fast in a crisis ... especially with the ultimate backstop of federal deposit insurance."

How about tending those deposits better in the future?

"As this financial storm has destroyed certain other segments of the financial services industry, most banks have remained relatively strong. Your reliance on stable deposit funding backed by deposit insurance -- as well as the regulatory regime that entails -- has insulated most banks from the harshest consequences of this crisis."

Not everyone is a dumbass. Just the big guys. I wonder why? Could Too Big To Fail have anything to do with it? Calling Bill Seidman. How about a recap of the S & L Crisis for our banking amnesiacs?

"The Future of Banking

So, what will the banking industry look like in the coming years? If this crisis has taught us anything, it's that both bankers and their regulators are responsible for maintaining the public's trust. This means we must work together to ensure that the public's trust is well placed."

If this crisis has taught us anything, it's that bankers rely on government bailouts. Period.

"First, from a regulatory perspective, I think we need to return to the fundamentals. This crisis period has shown the need for a more systematic approach to regulation overall, as well as a greater focus on financial incentives. By a systematic approach, I mean that we need to plug any gaps that allow regulatory arbitrage, which was a major factor in the blowup in the mortgage securitization market."

Good luck in getting rid of Regulatory Arbitrage if you don't rationalize the system into fewer Agencies and fewer and clearer supervisory rules and procedures.

"The regulatory system also needs to make certain that the right people have skin in the game and get paid not for short-term gains, but for taking the long view. The most problematic mortgage loans were made to people who couldn't afford them, were unable to make the payments over the long term, and who may not have fully understood the terms of the deal. Protecting the consumer is essential to risk management and safe-and-sound banking."

Don't worry, we've still got skin in the game, as you so eloquently put it. We just don't have the shirt on our back. The Long View. I'll be impressed if they can view Le Sacre du Printemps.

"Regulation also needs to promote transparency and control complexity. As financial instruments have become ever more complex, the analysis that supports them has become less well-grounded in experience."

You can understand complexity, and then explain it. If you can't, then you don't understand it. I don't know about controlling it. That seems dubious to me, unless by complexity you mean BS.

"Complex instruments in many cases have become a tool for inflating leverage, which as you know is a time-honored recipe for financial instability. That is why we need to have meaningful constraints on leverage -- not just on bank balance sheets, but across the financial system."

Since you understand that these complex instruments were used to decrease capital requirements, which is inherently riskier, would you mind having the FDIC print that up and hand to everyone who starts pleading ignorance of how things went wrong with these complex intruments?

"The extraordinary measures that have been undertaken by the federal government in recent months do not come with the unconditional support of the American public. The public will only support these programs to the extent that you use them in good faith to serve the interests of your customers and your communities."

Think Bastille Day.

"Look at it from the industry's perspective. The future of banking will depend a great deal on how bankers embrace their role in maintaining the public's trust, and by how you respond to the current crisis. This is an opportunity for bankers to demonstrate that the public's trust in them, is well-placed. In many ways it means the industry must return to the fundamentals of banking."

I'll pass on the embrace, if you don't mind.

"It means accepting the obligation to make credit available to qualified borrowers on reasonable terms. It means re-asserting the banking industry's central role as the engine of economic growth and prosperity. It means forging ahead to find the path to success where others have failed in the current crisis."

Why, why, you're being asked to be a decent human being. Do you think that you can do that?

"If this industry will embrace that role, that challenge, and that public trust, then I believe that the future of banking will be bright indeed."

Can you play that role? Or at least mouth the part? Then we won't embrace or trust you, but we might not tar and feather you. Is it a deal?

"Thank you very much."

I always hear that phrase in the voice of The King.

Here's Hempton:

"There is plenty of evidence she made these mistakes all on her own and she should resign.

Press reports indicate that Geithner wants her gone. Geithner is no political hack wanting to get rid of the Republican. He just wants to get rid of the dangerous and irresponsible bull in the china shop.

Some press indications are that Sheila Bair will be hard to remove. She is a statutory appointment after all – and her position will survive a change in government. And if she puts up a fight she will be even more destabilising.

A change in administration is the perfect opportunity for Sheila to resign. Then she can do it without disgrace. But my contention is that every day Sheila is in the position is another day added to the end of the financial crisis. She, more than anyone, makes it clear that intermediate funding in banks is insecure – and fixing that perception is the first and most important thing needed to make this crisis go away.

So Sheila, you are going to be asked to resign anyway. Please make it quick, give your successor time to undo the damage you did and help get this crisis over with.

John Hempton"

I defended her a bit on his blog, but my heart wasn't in it. If you're interested, you can read it there.