Federal bailout for major bank

United States government officials and Continental Illinois National Bank & Trust Company are expected shortly to unveil a historic $4.5 billion rescue plan for the Chicago bank.

The plan could also affect other banks, bank regulation, and bank customers for years to come.

The heart of the package is what some analysts are calling the first nationalization of a major US bank. By taking bad loans off Continental's hands and injecting new capital, the government hopes to establish a smaller bank that can become profitable and win back the depositors who fled as a result of the bank's well-publicized woes.

In July 1982, Continental Illinois announced that it would suffer large losses as a result of buying $1 billion in energy loans of dubious quality from the failed Penn Square Bank of Oklahoma. Since May 1984, Continental has been kept afloat by a $7.5 billion temporary aid package lashed together by the Federal Deposit Insurance Corporation (FDIC) and 28 major banks.

Compared with other bank bailouts, ''there are several stunning differences in approach'' in the government's handling of the Continental situation, says bank analyst David Cates, president of Cates Consulting Analysts in New York.

Among these differences: The government in effect is becoming the controlling stockholder in the bank, is guaranteeing deposits beyond the normal $100,000 federal insurance limit on a single account, and is standing behind other liabilities of both the bank and its parent company. If the bailout plan goes through, for example, holders of Continental's corporate IOUs will have government backing for securities now yielding as much as 44 percent.

Final details of the rescue package are still being nailed down. But banking sources say the FDIC is ready to commit $4.5 billion by:

* Spending $2 billion to buy loans Continental now values at $3 billion. As a result, Continental stockholders would see their equity reduced by $1 billion, an amount three times as large as any previous US bank loan write-off.

* Promising to buy up to $1.5 billion on loans from Continental, at full book value, for a period of three years. But Continental would have to hold on to roughly $3 billion in foreign loans, some to developing countries, repayment of which is doubtful in some cases.

* Buying $1 billion in nonvoting preferred bank stock, which can be converted into common shares on sale to a third party. In effect, this gives the government roughly 80 percent ownership of the bank, reducing the stake private investors now have in the concern.

Some money for the bailout would come from accumulated insurance premiums that the nation's banks have paid to the FDIC.

And the Federal Reserve Bank of Chicago will make a five-year loan to the FDIC of the $3.5 billion needed to buy Continental's loans. The Fed loan is designed to keep insurance premiums banks pay to the FDIC from soaring.

The FDIC could recoup some of the money it spends on Continental by selling Continental stock or by collecting on the bank's bad loans.

The FDIC and other bank regulators refused to discuss the rescue plan.

However, a press conference at which officials are to announce the package is expected to be held in the next several days. Continental also refused to discuss the negotiations. A bank spokesman says, ''The bank has not made any announcement about an agreement with the FDIC.''

If the package follows the outlines now circulating in the banking community, the effects of the bailout will be widespread.

For one thing, regulators will be looking for ways to tighten standards.

Earlier this week, for instance, the Fed proposed stiffer guidelines for bank capital.

Other banks could come under pressure from regulators and accounting firms to reduce the value they place on low-quality domestic loans in their portfolios once Continental has taken that step. By not purchasing Continental's foreign loans, the government avoided forcing other banks to write down their troubled loans to developing countries.

Continental's rescue is also likely to make some in Congress more reluctant to give banks authority to move into new fields like insurance and real estate. House Banking Committee chairman Fernand J. St Germain (D) of Rhode Island favors legislation to curtail banks' powers.

He called earlier federal aid for Continental a ''bailout for the powerful'' and plans hearings on the permanent rescue plan when it is announced.

Congress is also likely to give additional attention to the deposit insurance system, which was unable to stem the run on Continental.

Finally, the bailout may create an election issue. Democrats are expected to charge that Republican efforts to deregulate industry in general and banking in particular have backfired.

Analysts say there are forces working for and against the success of the Continental bailout. On the plus side, as a result of its formal relationship with the government, the bank should have to pay less to raise funds to lend than other banks, Mr. Cates says.

But the bank will still have to cope with troublesome foreign loans and the need to shift from being an aggressive big bank to a smaller, more conservative institution under federal control.

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