Thrift Industry Crisis: Causes and Solutions

Abstract

Crisis: Causes and Solutions FOR THE SECOND TIME this decade, the thrift industry is in crisis. Once again thrift industry performance is deteriorating, failures are widespread, the regulators are besieged, and Congress has passed major banking legislation following protracted debate. Indeed, the current difficulties will be harder and more costly to resolve than those of the early 1980s. The implications-for competition in financial services, availability of funds for housing, and federal budget expenditures-are profound. We begin our paper with a review of the thrifts' difficulties, from signs of trouble in the 1970s to the contemporary attempts to shore up the deposit insurance fund. In doing so, we show how regulatory forbearance during the early 1980s turned an initial crisis, caused by the thrift industry's undiversified portfolio of fixed-rate, long-term mortgages, into a near-disaster, in which hundreds of insolvent thrifts continue to operate. We assess the policy response to the current crisis and make recommendations of our own. Finally, we show how the recently deregulated thrift industry has been diversifying and moving away from its traditional role. We also discuss the outlook for the thrift industry in the context of regulatory reform, innovation, and competition. We would like to thank the members of the Brookings Panel and James Barth for helpful comments on an earlier draft.

The Making of a Post-Keynesian Economist

“…From 1980 to 1986 about 600 out of 4000 TIs failed (Brumhaugh, Carron and Litan, 1989). Brumhaugh and Carron (1987) blame regulatory constraints and the inability of TIs to adapt to rising interest rates for the crises of 1980s, drawing renewed attention to a point first emphasised in Cornwall (1972). It seems that John's perceptive conjectures during the 1960s and 1970s were all too amply confirmed by the experience of the 1980s.…”

Political Influence and Declarations of Bank Insolvency in Japan

“…A delay in the resolution of insolvent banks promotes excessive risk taking and even fraud, thereby imposing substantial costs on society and, particularly, on taxpayers, as illustrated by the saving and loan (S&L) crisis in the U.S. (Kane 1989, Barth 1991, Brumbaugh and Carron 1987, Akerlof and Romer 1993, Kroszner and Strahan 1996) and the banking/financial crises in other countries (Dziobek and Pazarbasioglu 1997, La Porta, Lopez‐de‐Silanes, and Zamarripa 2003, Honohan and Klingebiel 2003). Therefore, a welfare‐maximizing government should attempt to enforce bank supervisory policies that allow prompt resolution of insolvent banks in order to minimize the economic costs associated with excessive risk‐taking and fraud.…”

“…For bank equity holders, the costs of insolvency resolution comes simply from the fact that when an insolvent bank is closed, bank equity will typically be written down. Perhaps more importantly, the prompt resolution of insolvent banks deprives them of the opportunity to economically gain from “gambling from resurrection” and/or “looting” strategy (Brumbaugh and Carron 1987, Kane 1989, Barth 1991, Akerlof and Romer 1993). Bank managers and employees might also resist early resolution of insolvent banks as they face the possibility of job losses.…”

Problems of the Fslic: A Former Policy Maker's View

“…An earlier version of the paper was presented at the Western Economic Association International 64th Annual Conference, Lake Tahoe, Nev., June 21, 1989, in a session organized by James R. Barth, Office of Thrift Supervision, Washington, D.C. 1. For other recent discussions of this crisis, see Brumbaugh and Carron (1987), Strunk and Case (1988), Benston and Kaufman (1988a,b), Bemheim (1988), Benston et al (1989), Brumbaugh and Litan (1989). Kane (1989).…”