By Colin Barr
February 23, 2011

The economy may be on the mend, but the nation’s banks are still looking a little green in the gills.

The number of banks at risk of failing rose for the 17th straight quarter to 884, the Federal Deposit Insurance Corp. said Wednesday. That means 1 in 9 FDIC-insured institutions is at risk of collapse – which is the highest proportion in at least two decades.

The latest rise in the problem bank list comes as the banking industry has returned to profitability and the economy is showing signs of recovery.

U.S. banks made $21.7 billion in the fourth quarter, the FDIC said, marking their fourth straight quarter in the black following the financial meltdown of 2008-2009. Almost two-thirds of institutions showed year-over-year profit gains in the latest quarter, and the number of banks reporting losses declined.

But even as the industry’s numbers improve, there are signs of a troublesome disconnect between the health of the banks and the health of the economy.

A huge share of the latest quarter’s profits came from a few megabanks. The three most profitable U.S. bank holding companies – JPMorgan Chase (jpm), Wells Fargo (wfc) and Goldman Sachs (GS) – made $10.6 billion in the fourth quarter.

Returns at community banks continue to lag behind those at bigger banks, the FDIC said, while the number of banks keeps shrinking.

Industrywide loan balances fell for the third straight quarter and the ninth time in 10 quarters. Bank lending is not expanding “at the pace I’d like to see,” FDIC chief Sheila Bair said at a press conference announcing the results. “We need to see more lending.”

What’s more, the latest quarter’s results were boosted by banks’ decision to let money they have previously set aside for loan losses flow back into earnings. Banks cut loan loss provisions by $31 billion in the fourth quarter.

Bair called out the bankers after the FDIC’s third-quarter report, saying the decision to juice profits now at the expense of slimmer reserves put the banking sector’s safety at risk.

On the bright side, the federal deposit insurance fund is poised to return to the black for the first time since 2008. Bair said she expects the fund to show a positive balance later this year, though it will be 16 years before it returns to a fully funded state, according to FDIC estimates.

But who knows, by that time the banks may actually have started lending again.

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