Savings and loan crisis

The savings and loan crisis of the 1980s and 1990s (commonly dubbed the S&L crisis) was the failure of approximately a third of the savings and loan associations (S&Ls or thrifts) in the United States between 1986 and 1995. These thrifts were banks that historically specialized in fixed-rate mortgage lending.^[1] The Federal Savings and Loan Insurance Corporation (FSLIC) closed or otherwise resolved 296 thrifts from 1986 to 1989, whereupon the newly established Resolution Trust Corporation (RTC) took up these responsibilities. The two agencies closed 1,043 banks that held $519 billion in assets. The total cost of taxpayers by the end of 1999 was $123.8 billion with an additional $29.1 billion of losses imposed onto the thrift industry.^[2]

Starting in 1979 and through the early 1980s, the Federal Reserve sharply increased interest rates in an effort to reduce inflation. At that time, thrifts had issued long-term loans at fixed interest rates that were lower than prevailing deposit rates. Attempts to attract more deposits by offering higher interest rates led to liabilities that could not be paid-for by the lower interest rates at which they had loaned money. Nor could outflowing deposits simply be paid out by sale of now less-valuable assets. The end result was that about one third of S&Ls became insolvent, causing a first wave of failures in 1981–83.

When the problem became apparent, Congress acted to permit thrifts to engage in new lending activities with the hope that they would diversify and become more profitable. This included issuance of adjustable-rate mortgages and permission to enter into commercial real estate lending. Lower capital requirements and permissive accounting standards also allowed weaker thrifts to continue operating even though under the old rules or US GAAP they would have been insolvent. These changes allowed for substantial risk-taking and thrift industry growth. Many new thrifts were formed in the American southwest and levered themselves to substantial size rapidly. The regional concentration of thrift investments there, along with thrifts' inexperience in the new types of lending they had entered, proved highly fragile. When property prices in those regions dropped in 1986, a second and larger wave of failures started.

The thrift deposit insurer, FSLIC, was unable to pay for all these failures and became insolvent. FSLIC's financial weakness, along with congressional pressure, also forced regulators to engage in regulatory forbearance. This allowed insolvent thrifts to remain open and tied FSLIC to capital injections. Attempts to recapitalize FSLIC arrived both too late and in insufficient amounts. Failures continued to mount through 1988 and by February 1989, congressional legislation – the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 – was brought to establish the Resolution Trust Corporation to wind down all remaining insolvent thrifts. The law also brought more stringent capital regulations for thrifts and an increase in supervisory resources. Responsibility for thrift supervision and thrift deposit insurance were also transferred, respectively, to the then-new Office of Thrift Supervision and the Federal Deposit Insurance Corporation.