By Rebecca Christie
Nov. 17 (Bloomberg) -- The Federal Deposit Insurance Corp. may revise a $1.4 trillion debt-insurance program to address complaints that it would spur an exodus from the $250 billion market for overnight loans between banks.
The FDIC is considering charging different fees depending on the maturity of the debt, instead of its previous plan for a flat fee. Companies including JPMorgan Chase & Co. and Bank of America Corp. said the original proposal threatened to make the overnight federal funds market too costly compared with alternatives such as direct loans from the Federal Reserve.
``We are definitely thinking through how to respond to some of the concerns that have been raised,'' Art Murton, director of the FDIC's insurance and research division, said in an interview. ``Complexity is somewhat inevitable. We're doing our best to take away unnecessary confusion.''
The deliberations show how officials are trying to avoid some of the unintended consequences that have plagued other government programs. Banks in September protested a Treasury plan to insure money-market funds, saying it could spur a rush out of bank deposits. Some companies claim the Fed's purchases of top-ranked commercial paper penalize second-tier firms.
The FDIC had proposed charging a standard fee to insure all eligible senior unsecured debt. Banks argued that the federal funds market should be treated differently. If that market costs too much, banks might switch to government lending programs like the Fed's discount window or Federal Home Loan Bank advance programs, they said.
Banks Complain
``Such an outcome would not achieve the FDIC's goal of improving shorter-term unsecured inter-bank funding markets,'' law firm Sullivan and Cromwell wrote in a letter to the agency on behalf of nine large banks, including Goldman Sachs Group Inc., JPMorgan and Bank of America.
High premiums on federal funds lending ``could effectively shut down the overnight funds market,'' said Louis Crandall, chief economist of Wrightson ICAP in Jersey City, New Jersey. ``Most current activity in the overnight funds market would either not take place or be diverted to other instruments such as Eurodollars that are not subject to the FDIC's new fees.''
Banks have until Dec. 5 to decide whether to participate in the FDIC's program. Premiums started accruing on Nov. 13 for all banks, and those that don't want to take part must notify the agency. The FDIC plans to release final regulations for the program as soon as this week.
``We have certainly heard a lot on the fed-funds issue,'' Murton said.
Backstop for Lending
The program is separate from Treasury Secretary Henry Paulson's $700 billion bank bailout. It is designed to provide a broad backstop for interbank lending. The FDIC rolled out the plan on Oct. 14, in response to debt guarantees announced by European governments.
The FDIC is offering the debt insurance through its Temporary Liquidity Guarantee Program, which also includes expanded deposit insurance for business checking accounts. As laid out in the interim regulation, the FDIC will guarantee all new senior unsecured debt issued between Oct. 14 and June 30, 2009, up to a cap that will be set for each institution when it signs up.
Critics say the program is too complicated and won't be as effective as intended. FDIC Chairman Bill Isaac, now chairman of Secura Group LLC, said the idea is ``convoluted'' and has drawn fire from smaller banks.
``The small banks are just livid about what's going on,'' Isaac said. ``The small banks feel like they didn't have anything to do with creating these problems, yet they're being asked to pay for them.''
`Competitive Disadvantage'
Chip MacDonald, a banking lawyer at Jones Day, said banks may choose to participate so they don't lose an edge against rivals. Bankers who opt out ``may be at a competitive disadvantage,'' he said.
Banks are automatically enrolled unless they opt out. If a bank holding company joins, all of its banking subsidiaries must also join, and the program terms apply to all commercial paper, promissory notes and other eligible debt like federal funds loans. That was a change in the FDIC's thinking, Murton said.
``We may have signaled an openness'' to partial participation, he said. ``As we thought more about it in the next few days, we decided that it made more sense to have all in or all out for the instruments and the entities.''
Nonbank affiliates are excluded from the program. A finance unit, such as General Electric Co.'s, can apply to join, the FDIC said. GE said last week it had been accepted, which will provide a backstop for up to $139 billion in the company's debt.
That puts the company on a more even footing with banks, according to Crandall.
``Once the terms of the FDIC guarantee program are set, we're likely to see a wave of issuance of guaranteed medium-term notes by participants,'' Crandall said.
To contact the reporters on this story: Rebecca Christie in Washington at Rchristie4@bloomberg.net.
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