FDIC May Exclude Shortest Term Loans From Debt Insurance Plan

U.S. bank regulators may exclude the shortest-term loans from a $1.4 trillion debt-insurance program, helping the Federal Reserve avoid further unpredictable swings in the country's main interest rate.

Federal Deposit Insurance Corp. staffers are likely to recommend excluding loans that mature in 30 days or less, which would encompass overnight interbank loans at the rate targeted by the Fed, a person briefed on the plan said on condition of anonymity. FDIC Chairman Sheila Bair and other board members are scheduled to vote today on regulations governing the plan.

The Fed has failed for two months to keep the federal funds rate close to the target set by policy makers because of more than $1 trillion of loans flooding the banking system. The original FDIC proposal required fees to insure debt, spurring complaints that it would lead to an exodus from the $250 billion market for overnight loans between banks.

``It would have made the fed funds rate even more unpredictable,'' said Lou Crandall, chief economist of Wrightson ICAP in Jersey City, New Jersey. ``The FDIC would not want to interfere with a market that has been working, functioning efficiently.''

The recommendations or final rule might change before the vote, which will occur during a 2 p.m. meeting at the FDIC's Washington office. Spokesman Andrew Gray declined to comment.

``We will be acting to assure a prompt payment mechanism on the guaranty, as well as tiered pricing depending on the maturity of the guaranteed debt,'' Bair said at a John Hopkins University event in Baltimore yesterday. ``These changes will create significant investor demand, and dramatically reduced funding costs for eligible banks and bank holding companies.''

Expanded Insurance

The FDIC is offering the insurance on senior unsecured debt through its Temporary Liquidity Guarantee Program, which also includes expanded deposit insurance for business checking accounts.

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 Fed.

The Fed sets monetary policy by targeting a level of the federal funds rate, currently 1 percent. Yet the central bank's record injections of liquidity have driven the rate to less than half that level. At the same time, the Fed's rate on direct loans to commercial banks and bond dealers is 1.25 percent and isn't subject to market fluctuations.

The FDIC had proposed charging a standard fee of 0.75 percent to insure all eligible senior unsecured debt. Banks, in comments to the agency, argued that the federal funds market should be treated differently.

Libor

Rates on short-term loans between banks have tumbled since authorities devised the program. The London Interbank Offered Rate, or Libor, on one-month dollar loans has dropped to 1.40 percent from 4.47 percent on Oct. 14, when the FDIC announced the debt-insurance program. Overnight Libor has declined to 0.44 percent from 2.18 percent.

The FDIC program, separate from Treasury Secretary Henry Paulson's $700 billion bank bailout, is aimed at providing a broad backstop for interbank lending. The FDIC rolled out the plan after European governments announced debt guarantees.

As laid out in the interim regulation, the FDIC was to 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. Coverage expires on June 30, 2012.

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FDIC May Exclude Shortest Term Loans From Debt Insurance Plan