On the Origin of Big Bank Failures

“It is interesting to contemplate an entangled bank, clothed with many plants of many kinds, with birds singing on the bushes, with various insects flitting about, and with worms crawling through the damp earth, and to reflect that these elaborately constructed forms, so different from each other, and dependent on each other in so complex a manner, have all been produced by laws acting around us.”

– Charles Darwin, On the Origin of Species by Means of Natural Selection.

When Sir Charles Darwin first penned these words, he was not referring, of course, to Wall Street’s investment banks. Rather, his was describing the world of natural science, where a vast array of animal and plant life struggles daily in what biologist Richard Dawkins calls an “evolutionary arms race.”

As with the free markets of capitalism, the natural wilderness is a hostile, unforgiving environment. Mistakes are punished; successes rewarded. Only the fastest cheetahs and the most evasive impalas, for instance, survive long enough to pass their genes on to the next generation. The faster a cheetah runs, the more adept its prey becomes at avoiding capture. Weak individuals, and indeed entire species, die out. Over time, this “natural selection” produces increasingly agile, adaptive and advanced mechanisms for survival.

In the natural world, such a phenomenon is often referred to as the “survival of the fittest.”

Harsh as it may sound, it is precisely this process that ensures each generation is more advanced than that of its predecessors. Birds of prey continuously refine their sense of sight. Fish swim faster and for longer. And, given the vast expanse of geological time, a primordial soup flowers into the complex, awe-inspiring diversity that Darwin himself sought to describe and comprehend.

But it is not Darwin’s entangled banks with which we concern ourselves today. Rather, it is the many species of banks populating the modern day economy, and all those that feed on their slowly decaying ecosystems, that pique our interest. We are here, fellow Reckoners, to discuss this year’s Daily Reckoning Financial Darwin Awards – when we duly recognize those institutions that vanish from the corporate gene pool through unbridled acts of profligacy or simply their own inability to adapt to a changing environment.

Readers wrote in with nominations as wild and varied as the Galapagos finches. One Reckoner raised a hand for “Arnie Schwarzen-begger”…while another voted for the terminator’s entire state of California. Utah and Alaska also received state dishonors, as did Arizona, Florida and a host of others. And then…

“My vote goes to the US Government and the ‘man of the year’ helicopter Ben,” opined another reader. “Though to be fair, he didn’t do it alone. No man could have. It took Alan and Henry and Tim and countless other arrogant men to get to that place in time where you could financially cripple a whole world.”

On a sheer vote count, Ben Bernanke won hands down. Alas! We regret to inform that he must be disqualified from this particular competition. Remember, we are here to praise the extinct. But Bernanke is not extinct; he is thriving…like a cockroach in the fallout of nuclear blast. His prognostications might have been way off the mark…he might have forecast a period of “Great Moderation” during the bubbliest decade in history…and he also did more to rescue hideously mutated financial species from extinction than any central banker in history. However, Bernanke was just ushered in for his second term. In Darwinian terms, he is adapting to the Big Government era, toxic as it is, as well, if not better, than just about anyone else in the ecosystem.

Nor can we bestow this year’s Financial Darwin Awards on any of the financial mutations or extinctions that occurred in 2008 and before. So, as much as we empathize with the fellow who wrote in to raise a hand for “the year 1913, for spawning the Fed,” we simply must impose some parameters.

Indeed, by the time evolutionary biologists were celebrating the 150th anniversary of Darwin’s “Origins” – last year – Wall Street’s cumbersome, risk-laden investment banks had all but ceased to exist. Bear Stearns went the way of the dodo in 2008. Lehman Bros. followed into the giant, corporate tar pit later that same year and Merrill Lynch found its way into the stomach of Bank of America shortly thereafter. By September, Goldman Sachs and Morgan Stanley, the remaining two of the original “Big 5” investment banks, had swapped genes with the Federal Reserve and agreed to become bank holding companies, an arrangement that supposedly subjected them to closer regulation and cash requirements, in exchange for easier access to capital.

There were plenty of votes for AIG too, but we reckon that the world’s largest insurer ceased to be, in its previous form, back in 2008, when it mated with the Federal Reserve and swapped 79.9% of its equity DNA for a cool $85 billion. Sure, it subsequently grabbed another $182 billion in credit lines and assorted other gifts from its love struck admirers over at the Fed and Treasury. But by then it was under the care of C.E.Obama and, without their consent, the taxpaying American public.

How about the mutant twins, Fannie Mae and Freddie Mac? Again, although it may seem like only yesterday that the tides of good fortune receded from these giant mortgage lenders and exposed their naked balance sheets, Fannie and Freddie went into “official” conservatorship in 2008. In any case, it might well be argued that these government sponsored enterprises (GSE) were, and still are, what Darwin would have called an anathema to nature from the start. It may be years before they actually “go extinct”. In the meantime, they eke out a fruitless existence as parasites in the intestinal workings of the American economy, right down there in Washington DC.

[Note to government: Private and public enterprises are different species. You can cross a common ass with a thoroughbred mare if you like, but you still only get a mule. And male mules, as a matter of evolutionary interest, are always sterile, as are most females. Asses.]

So…who’s left in the running? What and who ceased to be in 2009? The list of banks that ended in the FDIC’s arms is longer for last year than in 2008, even though their total combined assets were far less (Washington Mutual, which collapsed in 2008, is still the largest bank failure in United States history, with some $327 billion in assets at time of extinction).

Don’t worry, though; there was still some tough competition out there this past year…

One hundred and forty banks bit the dust in 2009…as did the FDIC itself, before it stuck its elongated, purpose-built snout back in to the government funding trough. In total, the assets of these collapsed institutions amounted to some $170 billion. The largest failures by assets were, in order: Colonial Bank ($25 billion), Guarantee Bank ($13 billion), BankUnited ($12.8 billion), AmTrust Bank ($12 billion) and United Commercial Bank ($11.2 billion).

That’s pretty impressive. But c’mon! This is a depression. We can do better than that…

How about CIT Group, Inc. the commercial and consumer finance company, founded in 1908, which became the fifth-largest bankruptcy in United States history last year? The institution only became a bank holding company in 2008, in order to qualify for, and ultimately receive, $2.3 billion in Troubled Asset Relief Program (TARP) funds. By July it had blown through that (your) cash and was back begging for more. It was denied…and died on the bankruptcy floor in the eleventh month.

Again, the fifth largest bankruptcy in US history is nothing to be sneezed at…but that’s not where our story ends.

Unfortunately, we’ve run out of space here in this weekender, so we’ll have to reveal the ultimate “winner” in Monday’s issue. (Sorry to be a tease.)