By now, the story line of the savings-and-loan debacle is well established: In the late 1970s, thrift institutions found themselves lending at fixed rates but competing for deposits with new money-market mutual funds, which could pay market rates. In keeping with the spirit of the times, the solution was deregulation.
First, savings and loans were permitted to pay market interest rates on their deposits (which increased their costs of money). By the early 1980s, they were also allowed to be far more speculative in their own investments.
Lax regulation then allowed tiny S&Ls to pay premium rates to attract brokered deposits; by relying on this "hot" money, they could grow into multibillion-dollar creatures almost overnight. To finance the exorbitant interest rates they paid, S&Ls then pursued ever more speculative investments.
This new environment attracted a new type of swashbuckler to an industry that had been a model of dull probity. In this splendid test of the free-market model, Congress neglected just one detail: Congress failed to repeal federal deposit insurance. On the contrary, they increased it to $100,000. So all of this "free market" speculation was financed with taxpayer-insured dollars.
The expensive end-game of this story has emphasized the political corruption--efforts by the "Keating Five" and others to keep regulators from belatedly cracking down. This deferred the day of reckoning, prolonged the rickety game and upped the cost of the eventual bailout.
There are two strategies for making sense of this saga, which is a broader morality tale of the high-flying 1980s. The first is to examine one epic case, in all its sordid detail. The other is to look at the big picture, as a policy dilemma as well as a story of hubris.
If the first approach is to your taste, you will love Michael A. Robinson's "Overdrawn: The Collapse of American Savings." The American Savings referred to is the name of a particular S&L, but the other meaning is also apt. For the savings system of America collapsed along with the S&L disaster.
Robinson, who has covered finance for AP, UPI and most recently for The American Banker, concentrates on the spectacular collapse of California's and the nation's largest S&L. Right from his very first sentence, the reader is aware that Robinson is both a diligent reporter and a frustrated novelist: "A hard rain pelted the windshield of his rented subcompact as Ed Gray drove down a slick French highway on a secret mission."
Robinson is no Tom Wolfe, but fortunately such over-novelized sentences are the exception--and very careful, solid reporting is the rule. The story really does read like a novel, and this is not a bad strategy for making arcane financial details come to life--in the pumping adrenaline of big-time deals and the cops-and-robbers excitement of the Feds trying to keep up with the high rollers.
The basic story here is that in the early 1980s, one of the nation's most solidly managed S&Ls, American Savings, was head by an 81-year-old patriarch, Mark Taper, who wanted to cash out and retire. In the indulgent regulatory climate of the time, American was allowed to be purchased by Charles Knapp, a consummate wheeler-dealer whose own S&L was both smaller and shakier. Regulators held their collective breath, hoping that the strong institution would hold up the weak one. Of course, precisely the reverse happened, and that is what occurred throughout the industry.
As Robinson shows, Knapp ran his parent holding company, Financial Corp. of America, like a gambler, bending or breaking federal rules, hyping his company's stock, and at one point even contemplating a takeover of American Express.
Robinson also nicely explains the nuances of why it took so long for regulators to stop the game. One nuance was that as long as the game went on, the deposit-insurance fund would not have to pay up, and everyone could keep praying that rising real-estate values would make the system whole. Robinson also gets Ed Gray, the former chief S&L regulator and self-proclaimed Paul Revere, just about right. Gray comes off as part wheeler-dealer himself, and part genuine hero.
Robinson takes the story through FCA's first collapse and the belated ouster of Knapp (with a cool $2 million in separation pay), but that is only half the story. Equally scandalous is the aftermath, in which clumsy regulators kept the insolvent institutions on life-supports, at taxpayer expense, while a new generation of doomed high rollers attempted to rebuild. In the end, even junk-bond king Mike Milken--he's involved, too, in a cameo role--can't save either FCA, or the entire S&L culture.