[Federal Register Volume 71, Number 230 (Thursday, November 30, 2006)]
[Rules and Regulations]
[Pages 69323-69326]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 06-9203]


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FEDERAL DEPOSIT INSURANCE CORPORATION

12 CFR Part 327

RIN 3064-AD02


Deposit Insurance Assessments--Designated Reserve Ratio

AGENCY: Federal Deposit Insurance Corporation.

ACTION: Final rule.

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SUMMARY: Under the Federal Deposit Insurance Reform Act of 2005, the 
Federal Deposit Insurance Corporation (FDIC) must by regulation set the 
Designated Reserve Ratio (DRR) for the Deposit Insurance Fund (DIF) 
within a range of 1.15 percent to 1.50 percent. In this rulemaking, the 
FDIC establishes the DRR for the DIF at 1.25 percent.

DATES: Effective Date: January 1, 2007.

FOR FURTHER INFORMATION CONTACT: Munsell St. Clair, Senior Policy 
Analyst, Division of Insurance and Research, (202) 898-8967; or 
Christopher Bellotto, Counsel, Legal Division, (202) 898-3801, Federal 
Deposit Insurance Corporation, 550 17th Street, NW., Washington, DC 
20429.

SUPPLEMENTARY INFORMATION:

I. Background

    The Federal Deposit Insurance Reform Act of 2005 (the Reform Act) 
amends section 7(b)(3) of the Federal Deposit Insurance Act (the FDI 
Act) to eliminate the current fixed designated reserve ratio (DRR) of 
1.25 percent.\1\ Section 2105 of the Reform Act directs the FDIC Board 
of Directors (Board) to set and publish annually a DRR for the Deposit 
Insurance Fund (DIF) within a range of 1.15 percent to 1.50 percent.\2\ 
12 U.S.C. 1817(b)(3)(A), (B). Under section 2109(a)(1) of the Reform 
Act, the Board must prescribe final regulations setting the DRR after 
notice and opportunity for comment not later than 270 days after 
enactment of the Reform Act.\3\
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    \1\ Section 2104 of the Reform Act, Public Law 109-171, 120 
Stat. 9.
    \2\ To be codified at 12 U.S.C. 1817(b)(3)(A)(i), (B).
    \3\ Thereafter, any change to the DRR must be made by regulation 
after notice and opportunity for comment. Section 2105 of the Reform 
Act, to be codified at 12 U.S.C. 1817(b)(3)(A) (ii).
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    In setting the DRR for any year, section 2105(a) of the Reform Act, 
amending section 7(b)(3) of the FDI Act, directs the Board to consider 
the following factors:
    (1) The risk of losses to the DIF in the current and future years, 
including historic experience and potential and estimated losses from 
insured depository institutions.
    (2) Economic conditions generally affecting insured depository 
institutions. (In general, the Board should consider allowing the DRR 
to increase during more favorable economic conditions and decrease 
during less favorable conditions.)
    (3) That sharp swings in assessment rates for insured depository 
institutions should be prevented.
    (4) Other factors as the Board may deem appropriate, consistent 
with the requirements of the Reform Act.\4\The

[[Page 69324]]

DRR may not exceed 1.50 percent nor be less than 1.15 percent.\5\
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    \4\ To be codified at 12 U.S.C. 1817(b)(3)(C). The Reform Act 
provides:
    (C) FACTORS--In designating a reserve ratio for any year, the 
Board of Directors shall--
    (i) take into account the risk of losses to the Deposit 
Insurance Fund in such year and future years, including historic 
experience and potential and estimated losses from insured 
depository institutions;
    (ii) take into account economic conditions generally affecting 
insured depository institutions so as to allow the designated 
reserve ratio to increase during more favorable economic conditions 
and to decrease during less favorable economic conditions, 
notwithstanding the increased risks of loss that may exist during 
such less favorable conditions, as determined to be appropriate by 
the Board of Directors;
    (iii) seek to prevent sharp swings in the assessment rates for 
insured depository institutions; and
    (iv) take into account such other factors as the Board of 
Directors may determine to be appropriate, consistent with the 
requirements of this subparagraph.
    Section 2105 of the Reform Act (to be codified at 12 U.S.C. 
1817(b)(3)(C)).
    \5\ Any future change to the DRR shall be made by regulation 
after notice and opportunity for comment. In soliciting comment on 
any proposed change in the DRR, the FDIC must include in the 
published proposal a thorough analysis of the data and projections 
on which the proposal is based. Section 2105 of the Reform Act (to 
be codified at 12 U.S.C. 1817(b)(3)(D)).
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II. The Final Rule

Statutory Analysis

    In July 2006, the FDIC published a proposed rule that would set the 
DRR at 1.25 percent. In its proposal, the FDIC analyzed the statutory 
factors that must be considered in setting the DRR. The FDIC also 
identified three ``other factors'' that it considered.
1. Risk of Losses to the DIF
    In the proposal, the FDIC's best estimate of potential loss 
provisions for 2006 related to future failures was $93 million. The 
FDIC also considered economic stress events and their potential 
implications for losses to the insurance fund by running several two-
year stress event simulations. The results of each simulation, which 
were derived from historical stress events, demonstrate that banks are 
well positioned to withstand a significant degree of financial 
adversity. In no case did the stress simulation results raise any 
significant concerns.
    So far this year no banks have failed. In addition, loss provisions 
anticipated for next year are expected to remain low. These estimates 
suggest that near-term losses to the insurance fund would not 
significantly alter the reserve ratio.
2. Economic Conditions Affecting FDIC-Insured Institutions
    U.S. economic growth appears to be moderating in the second half of 
2006. Consensus estimates of U.S. economic growth are in the 2.0 to 2.5 
percent range for the second half of 2006, compared to growth of 3.2 
percent reported for 2005. While the cumulative effects of higher 
interest rates, higher energy prices and slower home price appreciation 
are expected to slow consumer spending, exports and nonresidential 
investment appear poised to make up a larger portion of net growth in 
the economy. This rebalancing of economic activity should be consistent 
with stability in the outlook for bank credit quality, and problem loan 
ratios are likely to move up modestly over time from today's historic 
low levels. Possible exceptions to this generally positive credit 
outlook include certain subsectors of residential real estate loan 
portfolios, where higher interest rates and a leveling off of home 
price increases could contribute to a higher incidence of credit 
distress.
    The condition of the banking industry remains strong. Earnings have 
set records each of the last five years, capital measures are still 
near historically high levels, and asset quality indicators remain 
solid. For the first half of 2006, the industry's annualized return on 
assets (ROA) remained high at 1.34 percent. The aggregate equity-to-
asset ratio was 10.27 percent as of June 30, 2006, and more than 99 
percent of all insured institutions met or exceeded the requirements of 
the highest regulatory capital standards. The ratio of noncurrent loans 
to total loans is its lowest since institutions began reporting that 
data 23 years ago. No insured institutions have failed in over two 
years, extending the longest period without a failure since the 
creation of the FDIC in 1933. Therefore, banks and thrifts generally 
appear to be well positioned to withstand the financial stress that may 
arise from potential economic shocks in the next few years.
3. Prevent Sharp Swings in Assessment Rates
    The Reform Act directs the FDIC's Board to consider preventing 
sharp swings in assessment rates for insured depository institutions.
    Strong insured deposit growth has contributed to a decline in the 
reserve ratio from 1.31 percent at year-end 2004 to 1.23 percent as of 
June 30, 2006. If recent robust insured deposit growth continues, there 
will be further downward pressure on the reserve ratio. This downward 
pressure could be offset by raising assessment rates; however, the 
availability of assessment credits will temporarily limit future 
revenue. Raising the reserve ratio to a DRR of 1.25 percent within a 
reasonably short time frame could require (depending upon insured 
deposit growth) a temporary, substantial increase in assessment rates, 
which would exhaust most of the credits rapidly. Increasing the reserve 
ratio more gradually could result in less substantial increases in 
rates.
4. Other Factors
    The FDIC's Board also considered certain ``other factors'' in its 
decision to propose setting the DRR at 1.25 percent.
    a. Transition to a new aassessment system. The FDIC noted that the 
assessment system is about to undergo significant change. Once proposed 
risk-based assessment regulations are finalized and become effective, 
all insured institutions will pay deposit insurance assessments 
regardless of the level of the reserve ratio. These proposed 
regulations also will change how the FDIC differentiates among insured 
institutions for risk in assigning assessment rates.
    Furthermore, to provide institutions a transition to the new 
system, one-time assessment credits will be available to those 
institutions that contributed in earlier years to the build-up of the 
insurance funds. The application of these credits to assessments will 
limit assessment revenue in the near term. If insured deposit growth 
remains strong, this may place temporary downward pressure on the 
reserve ratio, which is expected to reverse itself once banks begin to 
use up their credits.
    Finally, the FDIC will be changing to a system where the reserve 
ratio will be managed within a range from a system where a hard target 
for the reserve ratio applied.
    b. Midpoint of the normal operating range for the reserve ratio. 
The Reform Act authorizes the Board to set the DRR at no less than 1.15 
percent and no greater than 1.50 percent. The FDIC must adopt a 
restoration plan when the reserve ratio falls below 1.15 percent. When 
the reserve ratio exceeds 1.35 percent, the Reform Act generally 
requires the FDIC to begin to pay dividends. Because there is no 
requirement to achieve a specific reserve ratio within a given time 
frame, these provisions in effect establish a normal operating range 
for the reserve ratio of 1.15 percent to 1.35 percent within which the 
Board has considerable discretion to manage the size of the insurance 
fund. The FDIC noted that the current DRR of 1.25 percent is the 
midpoint of the normal operating range.
    c. Historical experience. The FDIC also observed that historical 
experience with a DRR of 1.25 percent indicates that it has worked well 
under varying economic conditions in ensuring an adequate insurance 
fund and maintaining a sound deposit insurance system and concluded 
that more experience with managing the fund under the new framework 
established by the Reform Act will be of benefit in

[[Page 69325]]

determining whether the DRR should be raised or lowered from 1.25 
percent.
5. Role of the DRR
    The FDIC also noted that the manner in which the FDIC's Board 
evaluates the statutory factors may depend on its view of the role of 
the DRR, which may change over time. The FDIC identified two potential 
general roles for the DRR: a signal of the reserve ratio that the Board 
would like the fund to achieve; and a signal of the Board's expectation 
of the change in the reserve ratio under the assessment rate schedule 
adopted by the Board.

III. Comments on the Proposed Rule

    The FDIC received 16 comments directly addressed to the proposed 
rule for setting the DRR.\6\ These comments generally fell into several 
main groups: the DRR should be set at the low end of the range; the DRR 
should be raised gradually over time; the reserve ratio should be 
raised gradually; the DRR should not be set at the minimum of the 
range; the DRR should be a rough guide to the DIF reserve ratio; and 
further economic rationale should be provided for setting the DRR at 
1.25.
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    \6\ Several other commenters also addressed the DRR, at least in 
passing, in comments directed to other FDIC rulemakings, 
particularly the rulemaking that proposed substantive improvements 
to the risk-based assessment system. 71 FR 41910 (July 24, 2006). 
All of the comments received that relate to the DRR have been 
considered in adopting this final rule and are available on the 
FDIC's Web site at http://www.fdic.gov/regulations/laws/federal/index.html.
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    One individual set out several arguments for setting the DRR at 
1.50 percent, including:
     Greater risk in the banking industry;
     Strong insured deposit growth;
     Inadequacy of a 1.25 percent DRR as evidenced by the FDIC 
fund falling from 1.24 percent in 1981 to a negative number in 1991; 
and
     The number of times the reserve ratio has been above 1.50 
percent during the FDIC's history.
    Several other commenters suggested setting the DRR below 1.25 
percent. Arguments in support of this suggestion included:
     A lower ratio would provide the industry with time to 
recapitalize the fund without facing sharp swings in assessment rates, 
particularly for those institutions which will not have credits;
     The FDIC is unrealistic in its optimism about the economy, 
and Congress expected the FDIC to set the DRR at the lower end of the 
range when institutions generally would face difficulty making 
payments, such as in difficult economic times, while setting the DRR 
higher when the economy was good and payments could be made more 
easily;
     The banking industry is financially healthy;
     The risk of fund losses is low, at least in part due to 
prompt corrective action requirements and other new supervisory and 
enforcement tools that enhance safety and soundness;
     Congress intended for the FDIC to determine an appropriate 
level for the DRR annually, rather than allowing the reserve ratio to 
meet the DRR over a period of a few years;
     The number of bank failures has been low;
     hardship on new growth institutions would be lessened; and
     The risk to the industry is lower now than in 1991 when 
Congress set the DRR at 1.25.
    Other commenters suggested that increases in the DRR be phased in 
gradually:
     Starting with a DRR of 1.20 percent and phasing in an 
increase to 1.25 percent over a five-year period; and
     Allowing an initial drift toward 1.15 percent, with a 
phased-in move to 1.25 percent over time.
    One comment from a banking industry trade group, however, stated 
that ``it would not be prudent'' to set the target at the minimum of 
1.15 percent.
    Several commenters suggested that, if the DRR were set at 1.25 
percent initially, or wherever it is set, the FDIC should increase the 
reserve ratio gradually over a period of no less than three years, or 
three to five years, in order to avoid unnecessary surges in assessment 
rates. More generally, the FDIC should take a slow and steady approach.
    Several commenters viewed the DRR as useful only for guidance in 
setting assessments, suggesting that the DRR:
     Is a very rough guide to a long-run equilibrium for the 
reserve ratio, and not a primary driver of premiums in the short-run;
     Should be analyzed each year to determine whether it is 
reasonable given the actual risk of loss to the DIF;
     Should not be viewed as requiring the imposition of higher 
assessments, but rather the FDIC should consider economic factors and 
the condition of the banking industry generally to determine whether to 
lower the DRR or whether it will be restored through deposit base 
changes, growth in investment earnings, low levels of expected 
failures, and similar factors.
    Three commenters sought greater analytical justification for 
setting the DRR at 1.25 percent, asserting that the FDIC's rationale 
was:
     Unclear;
     Not sufficiently explained, requesting more thorough 
analysis within two years; and
     Not justified based on actual risk and market conditions.

IV. The Final Rule

    The FDIC believes that the statutory analysis conducted in the 
proposed rulemaking is correct. Based upon that analysis, and for the 
reasons that follow, the FDIC has determined to set the DRR at 1.25 
percent.\7\
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    \7\ The final rule adds paragraph (g) of 327.4 (Subpart A) to 
the revised part 327 as set forth in the final rule on Operational 
Changes to Assessments (RIN 3064-AD03) published elsewhere in this 
issue of the Federal Register.
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    The FDIC concludes that the best way to balance all of the 
statutory factors (including the ``other factors'' identified above) 
and to preserve the FDIC's new flexibility to manage the DIF is to 
maintain the DRR at 1.25 percent. Several factors that the Board must 
(or may) consider--preventing sharp swings in assessment rates, the 
transitional nature of the assessment system, maintaining a DRR at the 
midpoint of the reserve ratio's normal operating range, the historical 
experience with a DRR of 1.25 percent, as well as the intent of the new 
legislation to provide the FDIC with flexibility to manage the reserve 
ratio within a range--all support or are consistent with maintaining 
the current DRR of 1.25 percent.
    Several commenters argued that the present good health of the 
industry argues in favor of a DRR lower than 1.25 percent. A goal of 
the Reform Act, however, is to allow the fund to rise when conditions 
are good so that it could decline when conditions are less favorable 
without the need to raise assessments sharply. In fact, the Reform Act 
directs the FDIC to consider allowing the DRR to increase under 
favorable economic conditions. Generally favorable economic conditions 
and the strong condition of the industry provide little justification 
for lowering the DRR.
    Further, most of the comments seeking to have the DRR set lower 
than 1.25 percent appear to be concerned with the assessment rates that 
will be charged, and the resulting amount of assessments that will be 
collected, if the DRR is set at 1.25 percent. This issue will be 
addressed in the risk-based assessments final rule being presented to 
the FDIC Board of Directors along with this DRR final rule case.
    How the FDIC will use the DRR may change over time. The FDIC views 
the role of the DRR as a signal of the level that the DIF should 
achieve; however,

[[Page 69326]]

the FDIC does not expect the DIF to reach this level within the first 
year of the new system. As required by the Reform Act, the FDIC will 
determine the appropriate DRR annually. Section 2105 of the Reform Act, 
to be codified at 12 U.S.C. 1817(b)(3)(A).

V. Effective Date

    The final rule setting the DRR at 1.25 percent will become 
effective on January 1, 2007.

VI. Paperwork Reduction Act

    The proposed rule will set the Designated Reserve Ratio for the 
Deposit Insurance Fund. It will not involve any new collections of 
information pursuant to the Paperwork Reduction Act (44 U.S.C. 3501 et 
seq.). Consequently, no information has been submitted to the Office of 
Management and Budget for review.

VII. Regulatory Flexibility Act

    Pursuant to 5 U.S.C. 605(b), the FDIC certifies that the final rule 
will not have a significant economic impact on a substantial number of 
small businesses (i.e., insured depository institutions with $165 
million or less in assets) within the meaning of the Regulatory 
Flexibility Act (RFA) (5 U.S.C. 601, et seq.). The final rule sets the 
Designated Reserve Ratio (DRR) at 1.25 percent, which is unchanged from 
the present Designated Reserve Ratio. Under the Federal Deposit 
Insurance Reform Act of 2005, the DRR provides no trigger for 
assessment determinations, recapitalization of the insurance fund, 
assessment credit use, or dividends. Consequently, retaining the DRR at 
1.25 percent will not have a significant economic impact on a 
substantial number of small insured institutions. No comments were 
received concerning the proposal's RFA certification.

VIII. The Treasury and General Government Appropriations Act, 1999--
Assessment of Federal Regulations and Policies on Families

    The FDIC has determined that the final rule will not affect family 
well-being within the meaning of section 654 of the Treasury and 
General Government Appropriations Act, enacted as part of the Omnibus 
Consolidated and Emergency Supplemental Appropriations Act of 1999 
(Pub. L. 105-277, 112 Stat. 2681).

IX. Small Business Regulatory Enforcement Fairness Act

    The Office of Management and Budget has determined that the final 
rule is not a ``major rule'' within the meaning of the relevant 
sections of the Small Business Regulatory Enforcement Fairness Act of 
1996 (SBREFA) (5 U.S.C. 801, et seq.). As required by SBFERA, the FDIC 
will file the appropriate reports with Congress and the General 
Accounting Office so that the final rule may be reviewed.

List of Subjects in 12 CFR Part 327

    Bank deposit insurance, Banks, banking, Savings associations.


0
For the reasons stated above, the Board of Directors of the Federal 
Deposit Insurance Corporation hereby amends part 327 of Title 12 of the 
Code of Federal Regulations as follows:

PART 327--ASSESSMENTS

0
1. The authority citation for part 327 continues to read as follows:

    Authority: 12 U.S.C. 1441, 1813, 1815, 1817-1819, 1821; Sec. 
2101-2109, Pub. L. 109-171, 120 Stat. 9-21, and Sec. 3, Pub. L. 109-
173, 119 Stat. 3605.

Subpart A--In General

0
2. In Sec.  327.4 of subpart A, add paragraph (g) to read as follows:


Sec.  327.4  Assessment rates.

* * * * *
    (g) Designated reserve ratio. The designated reserve ratio for the 
Deposit Insurance Fund is 1.25 percent.

    By order of the Board of Directors.

    Dated at Washington, DC this 2nd day of November 2006.

Federal Deposit Insurance Corporation.
Robert E. Feldman,
Executive Secretary.
[FR Doc. 06-9203 Filed 11-29-06; 8:45 am]
BILLING CODE 6714-01-P