Closing of an insolvent bank by the chartering agency. Only a state banking commissioner, the primary regulator of a state chartered bank, or the Comptroller of the Currency who regulates National Banks can make the decision to close a bank. If the bank is federally insured-by now nearly all bank deposits are covered by federal deposit insurance-the bank is placed in receivership with the Federal Deposit Insurance Corporation which then settles any claims against the bank by its creditors, including the claims of insured depositors up to $100,000 per account. The FDIC has the authority to liquidate, if necessary, the bank's assets to meet these claims, and by law is obligated to dispose any creditor claims by selecting the failure-resolution method bearing the lowest cost to the Bank Insurance Fund managed by the FDIC.
The least disruptive way of disposing of a failed bank is aPurchase and Assumption a transaction in which another bank steps forward and purchases some or all of the failed bank's assets and assumes its deposit liabilities. In drastic situations where a failed bank has almost no salvageable value, and thus no interested bidders willing to acquire it, the insurance fund pays the insured depositors of the liquidated bank the value of their claim, up to the $100,000 limit per account. This form of depositor protection is known as a Modified Payoff the insurance payout to depositors is modified in the sense that an Uninsured Depositor someone who has deposits in the failed bank greater than the insurance limit, may suffer some loss of principal or interest. The major difference between the two methods is, in a purchase transaction, the acquiring bank assumes all deposit liabilities, so the claims of both insured and uninsured depositors are fully covered.
Since federal deposit insurance began in the 1930s, no major bank in the United States has been allowed to fail by banking regulatory agencies, mainly out of fear that a failure by a large Regional Bank or a Money Center Bank would be too disruptive to financial markets. The "too big to fail" argument has been tested on several occasions, such as Continental Illinois failure in 1984, and also during the 1990-1991 recession, when a number of prominent banks suffered large loan losses.
FDIC-assisted mergers of failed banks into healthy institutions and acquisitions of troubled savings institutions accelerated the Interstate Banking movement of the 1980s and 1990s, allowing regional and money center banks to establish a presence in markets outside their home state by acquiring and restructuring troubled institutions. Generally, these merger transactions involve some form of insurance fund assistance, which usually results in a payment (or loan) representing the difference between the book value of bad loans in the failed bank and the price paid by the acquiring institution. See also Bailout; Bridge Bank.
