How Are the S&L Crisis and the Subprime Collapse Similar?
Numerous commenters have pointed out similarities between the Savings and Loan crisis of the late 1980s and the recent collapse of the subprime mortgage market.
Greed, corruption, fraud, Wall Street money, deregulation, political manipulations: all are blamed for both crises.
But the real story is that of the government specifically setting up an industry to fail, and pumping that market full of cheap, easy money before the inevitable collapse.
Under the Garn-St.
Germain Act of 1982, interest rate and investment aspects of the Savings & Loan industry were largely deregulated, but federal insurance regulations on deposits held at S&Ls were increased.
The limit was raised from $40,000 per account to $100,000.
Also, the Federal Savings and Loan Insurance Corporation (FSLIC) was granted "the full faith and credit of the US government," meaning that the federal government would guarantee deposits held in institutions with FSLIC insurance.
Immediately, money began flooding into regional thrifts from Wall Street investment firms through deposit brokers, who located S&Ls paying the highest interest rates and poured $100,000 deposits into those banks.
These were all accounts of no greater value than $100,000, making them completely insured in the event an S&L failed.
The large amount of money flowing into the regional thrifts from Wall Street firms like Merrill Lynch allowed the smaller banks to boost their reserves and make increasingly larger loans.
Loans were made on bad real estate deals using inflated appraisals, directly to friends, family, and cronys, condominium development projects, commercial real estate developments, casinos, jets, and so on.
Huge bonuses and salaries were paid out to bank presidents and everyone else involved in the scams.
There was even a forerunner to the securitization process that took hold throughout the subprime mess.
Participation deals allowed thrifts to spread their loan default risk to other banks by selling a portion of their loan portfolios to other S&Ls.
This also allowed thrifts to remove delinquent loans from their balance sheets for just long enough for the regulators to miss them, at which point they bought back the toxic loans.
The bubble and inevitable collapse of the industry was set up by the Reagan-Bush administration and the Congress removing lending and interest rate restrictions on the S&L industry and increasing regulations on federal deposit insurance in the event of a failure.
So it is a mistake to blame the crisis on deregulation when the most important regulation was actually increased.
The government removed some regulations while it simultaneously increased regulations to protect depositors against failure.
But this was just an invitation for criminals to take advantage of the insurance limits, not a problem with deregulation or the free market.
Greed and corruption certainly existed, but they would not have had such fertile ground to grow in the absence of federal protection against failure.
In the early 1990s, the government established the Resolution Trust Company (RTC) to buy up the inflated assets of failed S&Ls and sell them for whatever they were worth.
This resembles the current Treasury Department Troubled Assets Relief Program (TARP) that will be used to buy up inflated credit securities and sell them for whatever they are worth.
Again, another regulation against failure will allow banks, after pumping an industry to create a bubble, to confiscate any remaining assets for cheap.
The 1990s was also the decade where the banking system learned that, no matter how poorly their domestic or foreign lending decisions were, the US federal government would bail them out.
All they had to do was pump a market or country full of cheap money, then remove the easy profits at the top of the bubble, then get back in during the collapse when prices fell.
Of course, the "collapse" of a manipulated market bubble was summarily declared a "crisis" in the "free market," and a taxpayer-funded bailout was required to prevent a credit crunch.
This happened during the Mexican peso crisis, South East Asia crisis, and collapse of hedge fund LTCM, to name a few.
Every time there was a problem, the Federal Reserve turned on the money spigots, lowered interest rates and kept them low, and investment firms were bought or bailed out to avoid actual failure.
The internet stock and 9/11 recession were classic examples of this, as the Fed lowered interest rates beyond all reasonable levels and kept them low while the housing market was pumped full of easy money.
The artificially low rates turned a housing boom into an unsustainable bubble, while no one had a stake in the failure or success of any particular borrower.
Lending standards disappeared.
Mortgage originators were only too happy to make loans to people who had no money or income that could be used to pay back the loan.
Wall Street financial institutions enjoyed the profits they made from funding these types of loans.
Investors around the world were only too happy to buy the AAA-rated securities that were created from these subprime mortgages.
It was another participation scheme, but on a global level.
When rates began to rise, and people began taking a look at who actually received subprime mortgages, the industry collapsed virtually overnight.
But subprime lenders were simply conduits for money from Wall Street.
Once the large investment firms started to feel the pain of the collapse, an emergency was declared in the markets.
The Fed and Congress reacted immediately and allowed the firms to loot the economy with bailout after bailout, new Fed auction window after new Fed auction window, and federally guaranteed loan after federally guaranteed loan.
The only hope that legislators still have is for another bubble to form or the complete looting of the American economy.
With no boom in any market sector right now, it is difficult for the manipulators to create stability and upward momentum for the stock market.
Thus, it should be no surprise that Congress went back to the S&L toolbox and has been attempting to prime the pump for another financial bubble to form.
Just a few weeks ago, with the passage of the $700 billion bailout plan that resembles the old S&L Resolution Trust Company, the limits on federal deposit insurance were raised from $100,000 per account to $250,000.
Is Congress desperately trying to inflate a new bubble fueled by corruption, greed, and a federal backstop against failure?
Greed, corruption, fraud, Wall Street money, deregulation, political manipulations: all are blamed for both crises.
But the real story is that of the government specifically setting up an industry to fail, and pumping that market full of cheap, easy money before the inevitable collapse.
Under the Garn-St.
Germain Act of 1982, interest rate and investment aspects of the Savings & Loan industry were largely deregulated, but federal insurance regulations on deposits held at S&Ls were increased.
The limit was raised from $40,000 per account to $100,000.
Also, the Federal Savings and Loan Insurance Corporation (FSLIC) was granted "the full faith and credit of the US government," meaning that the federal government would guarantee deposits held in institutions with FSLIC insurance.
Immediately, money began flooding into regional thrifts from Wall Street investment firms through deposit brokers, who located S&Ls paying the highest interest rates and poured $100,000 deposits into those banks.
These were all accounts of no greater value than $100,000, making them completely insured in the event an S&L failed.
The large amount of money flowing into the regional thrifts from Wall Street firms like Merrill Lynch allowed the smaller banks to boost their reserves and make increasingly larger loans.
Loans were made on bad real estate deals using inflated appraisals, directly to friends, family, and cronys, condominium development projects, commercial real estate developments, casinos, jets, and so on.
Huge bonuses and salaries were paid out to bank presidents and everyone else involved in the scams.
There was even a forerunner to the securitization process that took hold throughout the subprime mess.
Participation deals allowed thrifts to spread their loan default risk to other banks by selling a portion of their loan portfolios to other S&Ls.
This also allowed thrifts to remove delinquent loans from their balance sheets for just long enough for the regulators to miss them, at which point they bought back the toxic loans.
The bubble and inevitable collapse of the industry was set up by the Reagan-Bush administration and the Congress removing lending and interest rate restrictions on the S&L industry and increasing regulations on federal deposit insurance in the event of a failure.
So it is a mistake to blame the crisis on deregulation when the most important regulation was actually increased.
The government removed some regulations while it simultaneously increased regulations to protect depositors against failure.
But this was just an invitation for criminals to take advantage of the insurance limits, not a problem with deregulation or the free market.
Greed and corruption certainly existed, but they would not have had such fertile ground to grow in the absence of federal protection against failure.
In the early 1990s, the government established the Resolution Trust Company (RTC) to buy up the inflated assets of failed S&Ls and sell them for whatever they were worth.
This resembles the current Treasury Department Troubled Assets Relief Program (TARP) that will be used to buy up inflated credit securities and sell them for whatever they are worth.
Again, another regulation against failure will allow banks, after pumping an industry to create a bubble, to confiscate any remaining assets for cheap.
The 1990s was also the decade where the banking system learned that, no matter how poorly their domestic or foreign lending decisions were, the US federal government would bail them out.
All they had to do was pump a market or country full of cheap money, then remove the easy profits at the top of the bubble, then get back in during the collapse when prices fell.
Of course, the "collapse" of a manipulated market bubble was summarily declared a "crisis" in the "free market," and a taxpayer-funded bailout was required to prevent a credit crunch.
This happened during the Mexican peso crisis, South East Asia crisis, and collapse of hedge fund LTCM, to name a few.
Every time there was a problem, the Federal Reserve turned on the money spigots, lowered interest rates and kept them low, and investment firms were bought or bailed out to avoid actual failure.
The internet stock and 9/11 recession were classic examples of this, as the Fed lowered interest rates beyond all reasonable levels and kept them low while the housing market was pumped full of easy money.
The artificially low rates turned a housing boom into an unsustainable bubble, while no one had a stake in the failure or success of any particular borrower.
Lending standards disappeared.
Mortgage originators were only too happy to make loans to people who had no money or income that could be used to pay back the loan.
Wall Street financial institutions enjoyed the profits they made from funding these types of loans.
Investors around the world were only too happy to buy the AAA-rated securities that were created from these subprime mortgages.
It was another participation scheme, but on a global level.
When rates began to rise, and people began taking a look at who actually received subprime mortgages, the industry collapsed virtually overnight.
But subprime lenders were simply conduits for money from Wall Street.
Once the large investment firms started to feel the pain of the collapse, an emergency was declared in the markets.
The Fed and Congress reacted immediately and allowed the firms to loot the economy with bailout after bailout, new Fed auction window after new Fed auction window, and federally guaranteed loan after federally guaranteed loan.
The only hope that legislators still have is for another bubble to form or the complete looting of the American economy.
With no boom in any market sector right now, it is difficult for the manipulators to create stability and upward momentum for the stock market.
Thus, it should be no surprise that Congress went back to the S&L toolbox and has been attempting to prime the pump for another financial bubble to form.
Just a few weeks ago, with the passage of the $700 billion bailout plan that resembles the old S&L Resolution Trust Company, the limits on federal deposit insurance were raised from $100,000 per account to $250,000.
Is Congress desperately trying to inflate a new bubble fueled by corruption, greed, and a federal backstop against failure?