Banks face changes in deposit insurance.

Banks face changes in deposit insurance

Brokered deposits, blamed in part for contributing to the nation's savings and loans crisis, may have been dealt a final death blow by U.S Secretary of the Treasury Nicholas Brady.

As part of a massive governmental restructuring to "preserve deposit insurance for every small saver in America," Brady earlier this month unveiled a plan which would eliminate federal insurance for deposits placed in banks by securities brokers looking for high rates of interest.

The practice of brokered deposits is seen as contributing to the cost of federal bailout of failed savings and loans because troubled thrifts would often take large deposits from brokers, promising higher than market interest, in an effort to outgrow their problem.

In explaining why insurance on brokered deposits would be eliminated, Brady said: "Originally intended to protect small depositors who could not protect themselves, deposit insurance has expanded to cover large, sophisticated investors who are able to evaluate investments and protect themselves." Ken Ackbarali, vice president and senior economist for First Interstate Bank Corp., said the use of brokered deposits was "fairly widespread" at savings and loans in the mid 1980s, but the practice has slowed as several new regulations and limitations on the activity have been passed in the last several years.

Ackbarali said the new proposal, if adopted, could cause further elimination.

"If they are no longer eligible for federal insurance, I think they will lose their attractiveness to the investor," he said. Investors willing to risk a loss can get higher rates with corporate bonds, municipal bonds and other investments, Ackbarali said.

Deposit brokers looking for investments, call small, independent banks of a regular basis, said Steven Fried, president and chief executive officer of Western United National Bank in Los Angeles. Fried added that his bank does not accept deposits.

"The brokers will call and say `I will give you $10 million in deposits. This is the rate (of interest) I have to get for my customers,'" Fried said. "After a while they learn that certain banks don't accept brokered deposits, so they don't call."

Gerry Findley, editor of the Findley Report, a banking industry newsletter, said the new regulations will help the 90 percent of banks and savings and loans which do not take brokered deposits by "bringing back a better image" to the institutions.

"The ones using these brokered deposits and buying this high-cost money, they're going to have to clean up their act or change the way they do business or someone is going to have to take them over," Findley said.

The new rule, if adopted, will not hurt the banks, but it will hurt money managers, Findley predicted. "It will put them out of business," he said.

The California Bankers Association took a position in favor of eliminating insurance for brokered deposits before it was announced, said Chris Chenoweth, general counsel for the association.

The Bankers Association favors the elimination as long as brokered deposits are defined as deposits from a third party who is working for a fee. The bankers association has some concerns about how the government will define brokered deposits.

In previous regulations, the government has defined a brokered deposit as a deposit which receives a rate of interest half a percentage point higher rate of interest than is given at other financial institutions.

Last year, the bankers association had direct contact with what they considered an unreasonable definition of brokered deposit. The bankers group was unpleasantly surprised to learn recently that when they made a $100,000 deposit of association member dues at a member bank, the FDIC classified it as a brokered deposit.

Chenoweth said he still doesn't understand why it was classified that way.

PHOTO : Banking: Regulatory environment changes as government attempts to avoid S&L-type problems