Searching for protection against the next financial disaster, Congress in t989 ordered the Federal Deposit Insurance Corp. to beef up the insurance funds.

Lawmakers barred the agency from lowering its tales until the Bank Insurance Fund held $1.25 for every $100 of domestic deposits insured by the FDIC.

The same standard was set for thrifts and the newly created Savings Association Insurance Fund.

Two years later, Congress intervened again, instructing FDIC to start charging the riskiest banks and thrifts more for insurance.

The FDIC jacked up premiums and came up with a new pricing mechanism based on an institution's total capital and supervisory rating.

Today, the Bank Insurance Fund is thriving, while the fledgling Savings Association Insurance Fund is just beginning to build reserves.

If the bank fund recapitalizes next year. as expected, rates could drop dramatically. Meanwhile, thrills will continue paying higher premiums for years - a fact that could put the industry at a significant competitive disadvantage.

As a result, some are arguing that the 1.25% ratio should be lowered.

American Banker asked industry experts if the 1.25% ratio is still an appropriate test, especially given new requirements that regulators take prompt action against weak banks and thrifts.

L. WILLIAM SEIDMAN

Former chairman, FDIC

President,

Commercial Mortgage Asset Corp.

That's a question that's absolutely impossible to answer since they picked that number out of the air to begin with. Nevertheless, given the experience we had in the 1980s, it would certainly seem that something in that general vicinity would be prudent to keep on hand.

It was always just a goal. And going into the recent unpleasantness, we had about $18 billion and that got us through it. So, given inflation, something in that area of $25 billion sounds about right.

LOU NEVINS

President,

California League

of Savings Institutions

The 1.25% has no relevance anymore because I don't think it is an accurate measurement of risk. This arbitrary ratio of reserves to deposits is less significant than it used to be because there are so many other steps that regulators can take to reduce risk.

The target is even less useful, in the case of a merged fund because a larger fund would be less vulnerable to the failure of a few very large institutions.

One of the criteria they often look to is what's the exposure to the failure of the top five institutions. In both cases, the theoretical failure of the top five would more than wipe out either fund. But the ratio improves if you merge the funds.

W. ROGER WATSON

Research director,

Federal Deposit Insurance Corp.

It's as good a number. as any other. I'm not even sure where that number came from. I think you have to have a fund of some significance so you can go through a situation like we had in the late 1980s and early 1990s without putting the taxpayers on the hook.

I don't think I'd like to get much below 1.25%.

KAREN SHAW

President,

Institute for Strategy Development

The 1.25% ratio has no actuarial significance whatsoever. It is difficult to make any sense of it except that it's bigger than no money and less than a lot of money. If you had a program that lasted more than 50 years with virtually no losses and then had a few terrible years that wiped it out, what does that tell you about reserve levels? Not much.

I don't know the answer because I don't know who deposit insurance is for, who it covers, and what risk is in the banking system anymore.

There's no good recent empirical analysis of any of these questions. Without it, setting arbitrary ratios may provide some illusory comfort, but has very little value otherwise.

KENNETH A. GUENTHER

Executive vice president,

Independent Bankers Association of America

In the existing political climate, the 1.25% reserve ratio is reasonable. There has to be an adequate reserve to convince the Congress and the taxpayer that there will be adequate funds to meet future contingencies.

Less than two years have passed since the General Accounting Office, Ross Perot, and Chairman Gonzalez used inaccurate "Chicken Little" rhetoric to describe the state of the FDIC-BIF.

The FDIC-BIF will meet the 1.25% ratio in the relatively newer future. The FDIC-SAIF, which is carrying annual FICO bond interest payments of $800 million, won't. And this is the rub. FDIC-SAIF premiums cannot be lowered until the 1.25% ratio is met.

This fact is highly unlikely to persuade the next Congress to lower the 1.25% ratio, which rightly or wrongly has been established as the benchmark of an adequately capitalized fund.

JAMES CHESSEN

Chief economist,

American Bankers Association

When I look back at FDICIA, I think it changed the whole nature of deposit insurance. Provisions in FDICIA, like prompt corrective action, eliminated a lot of what I would call the government's backup liability, since the obligation to repay any losses is squarely on the backs of the banks.

Because any losses to the fund are an obligation of the banking industry, it makes having a huge reserve fund unnecessary. I tie that in with the $30 billion line of credit [that FDICIA extended the banking industry].

You ask most bankers and they would say they would love to get rid of that $30 billion line of credit. It only continues the public perception that the banking industry needs the government's support and that's simply not true.

The banking industry is very close to reaching 1.25%, but it's been at tremendous expense. We are meeting the challenge in a much faster time frame and deserve the rebates once that level is reached.

ALLEN FISHBEIN

General counsel,

Center for Community Change

We would want to look very carefully at any changes made in the threshold requirements. The existing threshold works well because it gives clear guidance to the industry.

Banks are experiencing their lowest nonperforming loan rates in history. So, Clearly I think the industry's profile has been a good one and I think the reforms [such as prompt corrective action] have helped bring that about. I think importantly it's been a confidence booster for the general public.

How would it appear to the public at large if the ratio were lowered?

Given what we've seen happen with the conditions of the industry improving and public confidence being improved, those are important factors that would argue against making changes.

BRIAN SMITH

Director of policy,

Savings and Community Bankers of America

There appears to be some sort of mystic quality to that number. Frankly, I think the very substantial changes that were made in the supervisory process by FDICIA argue for a lower number.

You could make a very strong case for saying that with the new tools that they have, 1% ought to be enough. One percent now would certainly do what 1.25% used to do. The regulators have the power to zap people before trouble arises.

Obviously, FSLIC went down the tubes and the FDIC fund skated very close to the edge also. But the changes that were made gave the regulators more authority.

As for the threat posed by new products like derivatives, these are backed up by separate capital charges. Besides a pitiful extra .25%, if there really is a hell of a lot of extra risk, it is not going to make much difference.

BERT ELY

President,

Ely & Associates

The 1.25% ratio is irrelevant. First, it's arbitrary. The whole notion of having reserves related to insured deposits makes no sense. Insurance companies don't determine how much reserves they need based on the face value of all their policies.

Second, it totally disregards the meaning of the systemic risk assessment that was put into law in 1991 that requires the banking system to operate on a pay-as-you go basis for large failures. If these failures will not be paid by the fund, why separately maintain a fund for total loss exposure?

Third, the 1.25% was established two years before depositor preference was enacted. Depositor preference reduces FDIC's losses because all liabilities of a bank other than its domestic liabilities stand behind the FDIC's claims. In a sense, it's another layer of cushion.

The fund ought to be a lot smaller than it is now. A lot smaller.

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