Continental Illinois National Bank and the FDIC
The near-failure of Continental Illinois National Bank and Trust Company in 1984 represents a pivotal moment in the history of the Federal Deposit Insurance Corporation (FDIC). It highlighted systemic risk and demonstrated the agency’s capabilities – and limitations – when confronted with a crisis of unprecedented scale.
Continental Illinois, based in Chicago, was once one of the largest banks in the United States. Its aggressive lending practices in the 1970s and early 1980s, particularly its participation in energy lending through Penn Square Bank, ultimately led to its downfall. When Penn Square collapsed in 1982 due to bad oil and gas loans, Continental Illinois faced severe liquidity problems. Its connections to Penn Square eroded confidence, triggering a massive withdrawal of deposits by both domestic and international investors. This phenomenon, known as a “run on the bank,” quickly spiraled out of control.
Initially, the FDIC attempted to orchestrate a private sector solution, encouraging other banks to acquire Continental Illinois. However, the size of the bank and the extent of its problem loans made a merger impossible. Realizing the catastrophic consequences of Continental Illinois failing – including a potential domino effect on other banks and the broader economy – the FDIC took unprecedented action. In May 1984, it announced a rescue plan that included a $4.5 billion capital injection and a guarantee of all deposits, including those exceeding the standard $100,000 insurance limit. This guarantee was a departure from the FDIC’s usual practice and signaled the extraordinary circumstances surrounding the Continental Illinois situation.
The FDIC’s actions were designed to restore confidence in the bank and prevent a wider financial panic. While the immediate crisis was averted, the long-term solution involved further intervention. In July 1984, the FDIC effectively nationalized Continental Illinois, purchasing a majority stake in the bank. It replaced the management team and began the arduous process of restructuring and disposing of the bank’s bad assets. The FDIC retained ownership of Continental Illinois for several years, eventually selling it to Bank of America in 1994.
The Continental Illinois crisis had a profound impact on banking regulation and the FDIC. It led to increased scrutiny of bank lending practices, particularly in the energy sector. More importantly, it highlighted the concept of “too big to fail” and the moral hazard it creates. If institutions believe they are too important to be allowed to fail, they may take excessive risks, knowing that the government will step in to protect them. The Continental Illinois case fueled debate about the appropriate role of government intervention in the financial sector and led to calls for reforms aimed at preventing future crises.
In conclusion, the near-collapse of Continental Illinois National Bank forced the FDIC to act decisively and implement measures that went beyond its normal operating procedures. The rescue demonstrated the FDIC’s ability to respond to a major financial crisis, but also raised important questions about systemic risk, moral hazard, and the role of government in regulating the banking industry. The lessons learned from Continental Illinois continue to shape discussions about financial stability and regulatory policy to this day.
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