The FDIC and the Continental Illinois Crisis

The near-collapse of Continental Illinois National Bank and Trust Company in 1984 remains a landmark event in the history of the Federal Deposit Insurance Corporation (FDIC). It serves as a powerful example of the FDIC's role in managing systemic risk and preventing widespread economic disruption, even when facing a crisis of unprecedented scale.

Continental Illinois, once one of the largest banks in the United States, aggressively pursued growth in the 1970s and early 1980s. A significant portion of its loan portfolio consisted of high-risk energy loans, particularly those made through Penn Square Bank of Oklahoma. When the oil market crashed in the early 1980s, Penn Square collapsed, leaving Continental Illinois exposed to massive losses. Investors, fearing further losses, began withdrawing funds from the bank, creating a classic bank run.

The situation was particularly alarming because Continental Illinois had a large number of uninsured deposits, meaning those exceeding the FDIC's insurance limit at the time. These were held not only by individuals but also by corporations and other financial institutions. The failure of Continental Illinois, therefore, threatened to trigger a domino effect, potentially destabilizing the entire financial system.

Faced with this imminent threat, the FDIC took extraordinary measures. Initially, the FDIC organized a consortium of banks to provide a $4.5 billion loan to Continental Illinois. However, this proved insufficient to quell the panic. The FDIC then intervened more directly, effectively nationalizing the bank in July 1984. The FDIC purchased $4.5 billion in bad loans from Continental Illinois and injected $1 billion in capital in exchange for controlling interest. This action was unprecedented in its scale and scope.

Importantly, the FDIC explicitly stated that all depositors, including those with uninsured deposits, would be fully protected. This bold move was crucial in preventing further bank runs and restoring confidence in the financial system. This "too big to fail" approach, while controversial, was deemed necessary to avert a systemic collapse.

Following the intervention, the FDIC managed Continental Illinois for several years, restructuring its operations and gradually selling off its assets. In 1994, Bank of America acquired Continental Illinois, marking the end of the crisis and the successful resolution of a near-catastrophic situation.

The Continental Illinois crisis had a lasting impact on banking regulation and the FDIC. It highlighted the risks associated with aggressive lending practices, the interconnectedness of the financial system, and the importance of effective risk management. The crisis led to increased scrutiny of banks' lending practices and stricter regulatory oversight, including higher capital requirements. Furthermore, it solidified the FDIC's role as a key player in managing systemic risk and protecting the stability of the financial system. The Continental Illinois experience remains a critical case study for policymakers and regulators dealing with financial crises.