THE CREDIT CRISIS: INVESTMENTS ON A TIGHTROPE WITH LESS SAFETY NETS RICK TOBIN
Sadly for S & L’s, they had existing interest rate ceilings in place which limited how much they could pay their
banking customers. As a result, many S & L customers began to pull their funds out of their local banking
branches, which hurt their banks’ abilities to cover their portfolios of performing or non-performing loans at the
time.
As short term interest rates like the
Prime Rate reached 21.5% by
December
1980
due
to
then
Federal Reserve Chairman Paul
Volcker’s alleged concerns about
increasing inflation rates, banking
customers started demanding or
searching for higher rates of return
from sources other than their local
S & L. Many banking customers
pulled their funds out of S & L’s,
and later invested them in money
market funds, stocks, or real estate
investments.
Parallel to the increasing rates in the USA back in the early 1980s, banking laws and rules were eased so that
S & L’s may later diversify their investments, and invest in potentially higher yielding investments like
commercial real estate, residential and land development, consumer, and business investments. Additionally,
capital reserve requirements were eased so that S & L’s did not have to hold onto as much cash on hand as
they used to in years past.
Tragically, over seven hundred (700) S & L’s collapsed as a result of increasing rates and non-performing
loans. Almost half of the U.S. banks which existed back in 1970 were no longer in business by 1989. As a
result of the massive insurance coverage losses, the Federal Savings and Loan Insurance Corporation
(FSLIC) later became insolvent. The FDIC had to later step in and take over FSLIC in order to try to cover so
many of the billions of dollars of banking losses.
In 1989, a U.S. taxpayer bailout measure named Financial Institutions Reform, Recovery, and Enforcement
Act (FIRREA) was created in order to provide upwards of $50 billion to help out the failed financial
institutions. Shortly thereafter, the RTC (Resolution Trust Corporation) entity was established, in order to help
sell or liquidate real estate assets for a fraction of their once recent market values to try to generate much
needed cash.