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Monday, June 1, 2009

Deregulation, Demise of Savings and Loans, The Beginning of the End

In 1970, President Richard Nixon appointed a commission known as The President's Commission on Financial Structure and Regulation also known as The Hunt Commission. The primary accomplishment of this commission was to abolish the power to establish interest rate ceilings on time and savings accounts.

At the time of the commission, interest rate ceilings were established by the federal government on savings accounts, wherein savings and loans were permitted to pay 1/4 of 1% (25 basis points) more to their depositors than that paid by other depository institutions, principally commercial banks. In exchange for this advantage of 25 basis points, savings and loans were required to lend 80% of their deposits on home mortgages. The abolition of the power to establish interest rate ceilings meant the demise of savings and loans in the United States. The commission attempted to allow sufficient time for smooth implementation. However, it erred in the timing and failed to allow for a recession which ensued. This caused the savings and loan debacle, at a cost of more then $200 billion dollars to the U.S. Treasury.

By 1980, all state usury laws were, for all intents and purposes, involuntarily repealed; deposit money floated freely in the market place; savings and loans, as such, disappeared; the Federal Savings and Loan Insurance Corporation ceased to exist, and all bank deposits were insured by the FDIC. Also, in 1987, President Reagan did not re-appoint Paul Volcker, a proponent of regulation in the financial markets, as chairman of the Federal Reserve System. On the contrary, he appointed Alan Greenspan, who was one of the chief proponents of deregulation. There were a number of laws enacted that set us on the road to complete deregulation including the Depository Institutions Deregulation and Monetary Control Act of 1980 and the Garn-St. Germain Depository Institutions Act of 1982.

In 1994, the congress saw fit to allow inter-state banking with the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994. This was the beginning of the creation of super banks and the ultimate end, for the most part, of large community banks. In 1999, banks were allowed, not only, to cross state lines, but also, to cross state lines and buy other banks. Also, in 1999, Congress repealed what was left of the Glass-Steagall Act, which was enacted in 1933 to separate commercial banking from investment banking. The bankers had been lobbying for years, with the complicity of Alan Greenspan et. al., to have this law repealed. To add to the economic upheaval which was yet to come, both the Clinton administration and the Bush administration steadfastly refused to regulate derivatives. Some economists feel that this was the biggest cause of the present recession.

And, so, by the turn of the 21st century, the bankers had achieved almost total deregulation of the banking system. We know from sad experience that this was a serious mistake. We also know that "too big to fail" is intolerable. Last week, on CNBC, a guest made the statement that world powers must have super banks. There is little basis for this statement. Twenty years ago, Japan had very few banks, and many of those were classified as super banks. Japan has not been heard from as an economic world power for the last decade.