The Savings And Loan Crisis: Finally, the Bill Has Come Due

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How did the S & Ls arrive at such a sorry state? Traditionally, running a thrift was a relatively tranquil business. S & L managers used to follow what was known as the 3-6-3 rule: pay depositors 3%, lend money at 6% and tee up at the golf course by 3 p.m. When interest rates remained stable, the strategy worked well. But by the late 1970s, thrifts began steadily losing depositors to the new money-market funds, which were not covered by deposit insurance and paid higher interest rates.

Thrift executives pressured Congress to let them fight back. In 1980 Congress lifted restrictions on interest rates that S & Ls could pay. But regulators waited a year before freeing the other side of the balance sheet by allowing S & Ls to grant adjustable-rate mortgages. The delay left the thrifts in a bind, because interest rates had rocketed from 13% at the end of 1979 to more than 20% a year later. Thrifts were collecting interest rates of around 8% or less on their 30-year mortgages, while paying double-digit interest to new depositors. During 1981 some 85% of all S & Ls were losing money.

) Interest rates eventually eased, but other problems arose. Congress passed a sweeping deregulatory law in 1982 that permitted S & Ls to make loans for a raft of new businesses. At the same time, some states allowed their locally chartered thrifts to run wild. Suddenly no venture was too farfetched: ethanol plants, wind farms, Las Vegas casinos and commuter airlines. S & L managers who were accustomed to making simple residential mortgages were ill prepared to evaluate the new kinds of credit risks. The great mistake in deregulation was not so much the easing of rules but the failure of the federal and state governments to boost supervision at the same time.

A perverse trait among shaky S & Ls has been their tendency to get further and further into what one bank regulator euphemistically calls "deep yogurt," in part because they must offer higher interest rates than their competitors to keep attracting savings. Big-time depositors flock to these S & Ls, knowing that they cannot lose because the Government will guarantee deposits up to $100,000. In that sense, Congress contributed to the FSLIC's liability in 1980, when it raised the coverage limit from $40,000.

Troubled S & Ls are heavily concentrated in Texas and California, where state thrift regulations were loose and local economies had booms and busts. Many Texas thrift owners who pumped money into energy ventures when oil sold for $29 per bbl. in 1983 saw their collateral collapse in value when prices plummeted below $10 in 1986. In California some thrifts invested in real estate markets that became glutted, including Los Angeles office towers and Beverly Hills condominiums.

The overall losses would have been vastly smaller if Government regulators had seized control of insolvent S & Ls years ago. In 1983 the cost of the bailouts was estimated at only $10 billion. But the FSLIC never had enough cash simply to close down the thrifts and pay off the depositors. The Bank Board lobbied Congress for more money, but the politically powerful thrift industry consistently opposed such requests, along with almost any proposal to rein in the S & Ls.