S&Ls were first created in 1932 by the Federal Home Loan Bank Act. They were intended to allow more people to buy their own homes by providing lower mortgage rates. This meant these institutions also had to offer lower than average interest rates on deposits in order to turn a profit. Essentially, they paid people less for making deposits, but also demanded less payment for when people wanted to loan money to buy a house. The S&Ls were regulated in order to fit this role of homeownership promoter, with caps on interest rates for deposits and loans.
When the period of stagflation hit starting in the 1970s, S&Ls were devastated. High interest rates were set by the Federal Reserve in order to combat inflation. However, the restrictions on S&Ls didn’t allow them to raise their interest rates. This meant that people pulled money out of these institutions and put them elsewhere in order to get greater returns on their deposits, reducing available funds for S&Ls. Also, because of the recession, less families were buying houses, meaning less mortgages and therefore less money made. Finally, the long term fixed-rate mortgages which had been made earlier had interest rates far below the rising interest rates at other institutions.
In order to help failing S&Ls, the Carter Administration removed caps on interest rates for deposits and in 1982, Reagan signed an act which allowed S&Ls to make commercial loans, rather than only making loans to actual consumers. Laws restricting the safety of loans which were made were also removed, allowing S&Ls to make riskier and riskier loans in attempts to stop losses.
The Federal Savings and Loan Insurance Corporation (FSLIC) was the entity that backed S&Ls, but it was unable to cover mounting losses. When an S&L was unable to pay owed debts, the FSLIC was supposed to pay off the debt and close the bank. However, by 1983 the estimated debt for S&Ls was $25 billion, while the FSLIC only had $6 billion. The FSLIC fund itself became insolvent in 1987, having spent all of its funds in an attempt to bail out failing banks. However, because banks couldn’t close without paying off insured deposits, many failing banks had to remain open, and continued losing money through risky loans. In the end, it was up to President Bush to put an end to this, and he did so by providing $50 billion of government money to close all the failed banks. At the end of the day, the crisis had cost an estimated $160 billion, with taxpayers having to pay 132 billion of that.
https://www.investopedia.com/terms/s/sl-crisis.asp
https://www.thebalance.com/savings-and-loans-crisis-causes-cost-3306035
https://www.federalreservehistory.org/essays/savings_and_loan_crisis
At first this did not seem like an interesting topic to be blogging about, but your very scientific approach made the post both clear and interesting to read. It seems ironic that the banks continued to do the very thing that was bankrupting them in the hopes of not going bankrupt. At the same time, it was self inflicted, as the greed of the S&L, were the reason that they were going bankrupt in the first place. Similar to this crisis was the 2008 economic crisis. In that time, banks once again were lending out money in a practice called "subprime lending" which was more profitable, but also riskier. It paralleled the S&L crisis, as again the loans often could not be paid back, and as the housing bubble crashed the banks did to. It seems that these banks either didn't learn from history, or did not care as the repayment fell to taxpayers, and the executives got away relatively unscathed.
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ReplyDeleteGreat post, Henry! I think you did a great job explaining just why the S&L crisis happened. After reading your post, I did a little research on Savings and Loans associations. Did you know, that contrary to popular belief, the first S&L was actually founded in the 1830s in Frankfurt, Pennsylvania? The Oxford Provident Building Society lent money to their customers to help them buy houses, who would pay it back in weekly intervals. They would then use that money to lend to more customers to help them buy houses, and the cycle would continue.
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