The other option is “do nothing.” First Republic reported earnings on Monday, and they were legendarily awful:
Across the industry, First Republic’s quarterly earnings report on Monday has come to be regarded as a disaster. The firm announced a larger-than-expected drop in deposits, then declined to take questions as executives presented a 12-minute briefing on results.
But First Republic reported a profit. The problem, for First Republic, is that lots of its low-interest deposits have fled, and it has had to replace their funding by borrowing from the Fed, the FHLB and the big banks at much higher rates. Meanwhile it still has lots of long-term loans made at low interest rates. If you borrow short at 0% to lend long at 3%, and then your short-term borrowing costs go up to 5% while your loans stay the same, you will be losing 2% a year on your loans, and that is roughly the state that First Republic finds itself in. But it is not exactly the state that First Republic finds itself in: It still has some cheap insured deposits, some short-term assets, some floating-rate assets, some fee income, and in fact it has managed to scrape out a profit even as rates have moved against it. Can that last? I mean, maybe not:
The deposit run has forced First Republic to rely on other, more expensive funding. That makes it hard to generate interest income, and at some point it might not be able to.
“They’ve never been super profitable,” said Tim Coffey, managing director and analyst at Janney Montgomery Scott. “Now you’re not growing and you’re layering on really high borrowing and funding costs.”
But a bank can stay in business even with some quarterly losses, as long as it remains well capitalized, and as a technical matter First Republic has enough capital to withstand some unprofitable quarters. And if you muddle along for long enough, the situation can right itself: The long-term low-interest loans will roll off and be replaced with higher-interest new loans, and First Republic’s interest margins will start to expand again. It might work! If you are a First Republic shareholder, “do nothing and hope the business recovers” is clearly the best option.
Of course deposits might keep flowing out, but so what? First Republic is now funded in large part with loans from the Fed and the FHLB, and I suppose they could just lend it some more money. When Silicon Valley Bank failed, the Fed put in place a new Bank Term Funding Program that was designed for more or less this purpose: The BTFP lets banks borrow against their assets without taking into account interest-rate losses, so that they can replace fleeing deposits with loans from the Fed. US regional banks spent years in a low interest rate environment, they were caught out by a rapid rate hiking cycle, and the Fed responded to that problem by lending them money to smooth out the transition.
The advantage of doing nothing is that nobody has to take any losses now. But the regulators seem to want to move. Bloomberg again:
The clock for striking such a deal began ticking louder late last week. US regulators reached out to some industry leaders, encouraging them to make a renewed push to find a private solution to shore up First Republic’s balance sheet, according to people with knowledge of the discussions.
The calls also came with a warning that banks should be prepared in case something happens soon.
And one way for something to happen soon is if the Fed stops lending to First Republic:
As weeks keep passing without a transaction, senior [FDIC] officials are increasingly weighing whether to downgrade their scoring of the firm’s condition, including its so-called Camels rating, according to people with direct knowledge of the talks. That would likely limit the bank’s use of the Fed’s discount window and an emergency facility launched last month, the people said.
Why? Why close a bank and take billions of dollars of losses if you don’t have to? The consequences of doing something are obvious and bad; the consequences of doing nothing are a bit more diffuse.
But let’s talk about some of them. One is that there are legal limits on the Fed’s ability to keep propping up First Republic. I mentioned the BTFP, the Fed’s post-Silicon Valley Bank program that lends to banks at 100% of the face value of their collateral, even if that collateral has lost money due to rising interest rates. But only US Treasury and agency securities are eligible to be BTFP collateral, and First Republic’s assets are mostly loans. Those loans tend to be pretty safe — they are mostly mortgages to rich people — but they are very exposed to interest-rate risk, so they have lost a lot of value. And it can’t use them to borrow from the BTFP.
Meanwhile these loans are eligible collateral at the Fed’s discount window, its more standard lending program, but the discount window lends against the market value of collateral, and these loans have lost a lot of value. If deposits keep fleeing from First Republic, its ability to replace those deposits with Fed loans depends on the market value of its assets, which means it might run out of capacity. If the FDIC is worried about that happening sometime soon, then there is some urgency to do something first.
More generally, the theory of central banking is that central banks should lend to solvent banks, but not prop up insolvent banks. The Fed’s statutes limit its ability to lend to undercapitalized banks. In some obvious economic sense, First Republic is undercapitalized — its assets are worth less than its liabilities, which is why we are talking about this — but legally it is fine and has plenty of regulatory capital.
But at some point, if the regulators conclude that First Republic is not viable, it is at least, like, embarrassing for them to keep lending it money. In the limit case, if all of First Republic’s deposits fled, you could imagine the Fed lending it $210 billion (up from its current $105 billion of Fed/FHLB money) so it could continue to limp along. But that’s bad! You don’t want a bank out there doing business, making loans, paying executive salaries, that is entirely funded by the Fed. You need some private-sector endorsement of the bank for the Fed to keep supporting it.
Also: The losses have already happened. First Republic made loans at low interest rates, now interest rates are higher, and so its loans are not worth what they used to be. As an accounting matter, those losses don’t have to be recognized yet; First Republic’s balance sheet is still technically solvent, and it can muddle along for a while. But economically the difference between “the banking system reports billions of dollars of losses today and then normal profits afterwards” and “the banking system bleeds these losses into lower accounting profits for the next few years” is not that great, and the former is more clarifying.

First Republic
The two options with First Republic Bank are pretty much:
1) Do something, or
2) Do nothing.
“Do something” is obviously bad. First Republic’s balance sheet shows about $233 billion of assets, including about $173 billion of loans, but the market value of those assets is considerably lower: Those loans are largely mortgages made at very low interest rates, and they have lost a lot of value as rates have gone up.. First Republic estimated as of Dec. 31 that its assets were worth about $27 billion less than their carrying value. So figure its assets are worth something like $206 billion on a good day.
Meanwhile it has about $105 billion of deposits and about $105 billion of secured borrowing from the Federal Reserve and Federal Home Loan Bank system. Of those deposits, roughly $55 billion are insured by the Federal Deposit Insurance Corp. and roughly $50 billion aren’t; $30 billion of the unsecured deposits belong to a consortium of big banks that deposited money with First Republic last month to boost confidence. Roughly speaking, the insured deposits and the Fed/FHLB ($160 billion total) get paid back first, the uninsured deposits ($50 billion) get paid back next, and everybody else — subordinated debt, shareholders — gets paid back with whatever is left.
So if you can sell the assets for about $210 billion, then the government and all of the depositors get paid back in full; if you can’t, they don’t. (Either way, the shareholders are, uh, in trouble.) Again, the assets are worth something like $206 billion, based on First Republic’s filings in December; that would not quite be enough to pay everyone back. But the consensus seems to be that if you actually had to go sell everything at once, things would be considerably worse, and there would be a hole of tens of billions of dollars.
And so all of the do-something options are bad, because of that hole. The most straightforward do-something option is that the FDIC could seize First Republic, sell its assets, and use the money to pay back depositors. But there would be a hole of tens of billions of dollars. And the FDIC would either have to fill that hole (declaring First Republic systemically important and using its deposit insurance fund to pay off the uninsured depositors), or not fill that hole (letting the uninsured depositors bear the loss). The Wall Street Journal notes:
The details and extent of the FDIC’s support will be determined on whether they use the same tool, a so-called systemic risk exception, that allowed the agency to guarantee all of the depositors at last month’s two failed institutions.
Invoking that exception again would allow regulators to backstop all of the roughly $50 billion in deposits at First Republic that are above the FDIC’s insurance limit, including the $30 billion deposited by the big banks.
If the FDIC doesn’t make those depositors whole, it could reignite questions about such deposits at other regional banks, causing customers to yank their deposits from smaller firms. But if it does, the FDIC could be accused of bailing out Wall Street.
If the FDIC takes over First Republic at a loss, somebody — the uninsured depositors (meaning largely but not exclusively the big banks) or the FDIC (also meaning largely the big banks, who pay to fund the FDIC’s insurance fund) — has to bear the loss.
There are other do-something options that could happen in the shadow of an FDIC takeover: Another bank could buy First Republic and assume its deposits, or other banks could buy its assets at above-market prices, or banks or private equity firms could buy some equity in First Republic. Bloomberg News reports:
A number of rescue proposals have so far failed to come to fruition.
Earlier this week, Bloomberg reported that First Republic was looking to potentially sell $50 billion to $100 billion of assets to big banks that would also receive warrants or preferred equity as an incentive to buy the holdings above their market value.
By Wednesday, the firm’s advisers were privately pitching a similar concept, in which stronger banks would buy bonds off of First Republic’s books for more than they were worth so that it could sell shares to new investors. While that would mean booking initial losses, banks could hold the debts through repayment to be made whole.
But all of these have the same basic outcome, which is that somebody — probably, again, one or more big banks — steps in to bear the losses, to buy First Republic’s assets for more than they are worth. Nobody likes it:
The fate of First Republic Bank has become a game of chicken between the US government and the lender’s largest rivals, with both sides seeking to avoid steep losses and hoping the other will handle the troubled firm. …
Executives at five of the biggest banks, speaking on the condition they not be named, dismissed the notion of once again banding together to prop up First Republic, especially when it could mean paving the way for investors or a competitor to scoop up the firm at a bargain price.
If the big banks bear the losses on First Republic, then whoever ends up owning First Republic — its current shareholders, a new buyer — won’t. You can finesse that a little bit with warrants — effectively, you make the banks who take the losses also the new owners of First Republic — but the main problem doesn’t go away. The main problem is the losses.

@lewisBraham
You are correct, but when only 50% of eligible voters actually vote, a minority can control a lot of stuff.