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FDIC Temporary Liquidity Guarantee Program
I have heard that the FDIC has developed a Temporary Liquidity Guarantee Program. What is the program, and what is it supposed to do? |
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 The Federal Deposit Insurance Corporation (FDIC) set up the Temporary Liquidity Guarantee (TLG) Program in response to an increase in the systemic risk in the United States credit market. The increase in systemic risk stems from many depository institutions reacting to the market troubles and severely tightening lending standards and retaining cash. The disruptions in the credit markets have also negatively impacted companies' ability to issue commercial paper, especially paper with long maturity. Interest rates on commercial paper continue to be extremely high. Furthermore, issues of residential and commercial mortgage-backed securities have declined considerably in 2008. To ease the slowdown in the credit markets, the FDIC implemented the TLG. The program is designed to loosen up credit markets, in particular inter-bank lending markets and help prevent bank closures from overruns on deposit withdrawals.
The program helps improve liquidity for banks and the credit market in two important ways. First is the Debt Guarantee Program. Second is the Transaction Accounts Guarantee Program.
The Debt Guarantee Program provides a temporary guarantee for all newly issued senior unsecured debt up to certain limits that is issued by participating entities on or after October 14, 2008, through and including June 30, 2009. The FDIC guarantees the debt until June 30, 2012. Under this part of the program the FDIC guarantees payment of the balance of the new issued debt if the issuing company goes bankrupt or otherwise fails. 'Senior unsecured debt' refers to federal funds purchased, promissory notes issued, commercial paper, certificates of deposit, and unsubordinated unsecured notes among other types of issued securities. A 'bank' is any insured depository institution or institution regulated by a foreign bank supervisory agency. The program temporarily guarantees newly issued unsubordinated debt up to 125 percent of the par or face value of senior unsecured debt outstanding, as of September 30, 2008, that is scheduled to mature on or before June 30, 2009 or debt issued before June 30, 2009. The institution must indicate that the particular debt is FDIC guaranteed, and may not designate any other debt as FDIC insured under the program and must clearly indicate that such other debt is not FDIC insured. While providing a temporary guarantee for new securities, the FDIC Debt Guarantee Program is designed to improve inter-bank lending, and not to promote exotic new debt instruments or risky investments. The FDIC will make payment to the debt holder
for the principal amount of the debt and interest to the date of the filing of a
bankruptcy petition by the issuing institution. Those eligible to participate are FDIC-insured depository institutions, any U.S. bank holding company or financial holding company, and any U.S. savings and loan holding company, within certain specific limitations. Participation in this part of the program is completely voluntary, and eligible participants can opt out of the coverage.
The second part of the TLG is the Transaction Account Guarantee Program. This part of the program provides a temporary full guarantee for funds in non-interest bearing accounts held at FDIC insured deposit institutions. The guarantee for non-interest bearing is above and beyond the existing FDIC insurance amounts. A ''noninterest-bearing transaction account'' for the guarantee program is defined as a transaction account that des not accrue or pay interest and there is no requirement of advance notice for withdrawals. Traditional demand deposit checking accounts that allow for an unlimited number of deposits and withdrawals and official checks of an insured depository institution are part of the guaranteed accounts. However the guarantee does not extend to negotiable order of withdrawal (NOW) accounts or money market deposit accounts (MMDAs). The program provides unlimited coverage for transaction accounts above and beyond the already available FDIC deposit insurance. Under the program, the FDIC's obligation to pay kicks in when the federally when the federally insured depository institution fails. The FDIC will either 1) make payment to the depositor for the guaranteed amount under the Transaction Account Guarantee Program or 2) will make such guaranteed amount available in an account at another insured depository institution. The Transaction Account guarantee is automatic for a thirty day period for all depository institutions, from October 14 2008 to November 12, 2008. Outside this window of time participation is voluntary, as for the Debt Guarantee part of the TLG. The Transaction Account guarantee is further limited when it comes to certain sweep accounts; when funds are swept from non-interest bearing transaction accounts to certain other accounts the guarantees are void and do not apply.
While participation in the program is voluntary, under certain circumstances the program's coverage will be extended even to institutions that would not otherwise be eligible. Any institution that would not be eligible otherwise may apply for inclusion in the program Some factors the FDIC considers for allowing inclusion are (1) the extent of the financial activity of the entities within the holding company structure); (2) the strength, from a ratings perspective, of the issuer of the obligations that you will be guaranteeing and, (3) the size and extent of the activities of the organization.
It is important to note that the TLG will not be funded from taxpayer revenue sources. Participating institutions will pay fees that are intended to defray the costs of guarantees for debt and transaction account balances. Under the Debt Guarantee part of the TLG the participating institution will pay an annualized fee of 75 basis points times amount of debt issued for the maturity period (or to June 2012, whichever is earlier) on all eligible debt issued from October 14, 2008 through June 30, 2009. As for the Transaction Accounts part of the program, those institutions that do not opt out will be assessed an annualized 10 basis point assessment on balances in noninterest-bearing transaction accounts that exceed the existing deposit insurance limit of $250,000.
The hope of the FDIC is that the new programs will enable some banks and thrifts to avoid financial difficulty by easing liquidity concerns and putting investors' and depositors' minds at ease, because the FDIC will, at least temporarily, provide guarantees for deposit institutions and debt.
Published on BankingQuestions.com 11/07/08
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