Sunday, November 30, 2008

The Saving and Loan crises in 1989

The “Black Monday” in 1987 was followed in quick succession by two more crises in US economy till the advent of new millennium. The Saving and Loan crises in 1989 and thereafter the Long Term Capital Bailout in 1998; were the two turmoil that rocked the US economy.
In US, like banks, savings and loan institutions accept deposits from public and offered mortgage loans to them. They are in the business since 1800s and remained under strict regulation till 1970s. In late 70s, new competitors, Money Market Funds started offering higher interest rate than S&Ls. The S&Ls sought deregulations to offer higher interest rate and more loans from government; what they got. It was something like handing in babies with shot-guns.
The 1980s real estate boom saw many S&Ls grew so fast as never before! Their speculative assets grew faster than ever. Loans granted against superficially priced properties brought many S&Ls prospects down, even to dooms! It was due to huge payment defaults by borrowers. By 1987, believe it! 505 S&Ls went bankrupts. The depositor’s money with F&Ls was guaranteed by Federal Savings and Loan Insurance Corporation (FSLIC). But the enormity of amount turned FSLIC itself bankrupt! By 1995, half of the total F&Ls in US, totaling 747 went bankrupt.
It was in 1989, the newly elected President George H.W. Bush bailed out F&Ls, dolling out $153 billion dollar. Out of which $124 billion was tax payer’s money. This saw dissolution of FHLBB and the FSLIC and replaced by other regulatory bodies while seeking recourse.
While the F&L crises were on, seed of another crisis was planted. Legendary bond trader John Meriwether founded his own hedge fund leaving Salomon Brothers. A man of his stature attracted top financial minds of his time. He could raise $1.25 billion as capital to start with for his newly established Long Term Capital Management Meriwether. It was commonly known as LTCM and its mantra was scientific way of leveraged arbitrage.
This was primarily a Hedge Fund; how it brought about another Wall Street crash in 1989 is another story. It will be discussed in the next article.

1 comment:

AMIT said...

I like your way of writing.

Write poetry