If you continue to use this site we will assume that you are happy with it. The answer to this question offers a striking illustration of the relationship between the diversification of banks' loan portfolios and their vulnerability to failure. D.R. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services. 1. : MIT Press, 1986, Chapter 2.

The FDIC 10 days ago gave First Republic a $1 billion down payment on what is expected to be the most costly bank bailout ever, a $5 billion to $6 billion rescue mission. Market-beating stocks from our award-winning analyst team. This area had experienced a strong economic surge based on sharply rising oil prices and expectations of continued price increases.

We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. By making too many loans on oil and real estate, the Texas bankers fell victim to the same boom and bust cycles that have thrown thousands of wildcat drillers and real estate speculators into bankruptcy. The FDIC loan to First Republic represented not only the failure of the bank, but also the failure of government policies that have sought to contain the Texas banking crisis. SEIRs objective is also to reduce the discretion of regulators by imposing more specific rules, thus reducing the power of regulators. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. When a recession hit these towns from the rapid fall in farm prices after the post-World War I runup, the local automobile dealer failed, the local drugstore failed, and the local bank failed. Losses were often not recognized on the institutions books on a complete or timely basis, so that the institutions gave false appearances of solvency. Commercial banks were not as badly hit by the interest rate increase in the late 1970s because the maturities on the two sides of their balance sheets were not as mismatched. Money poured into the state, resulting in prosperity and a spending binge that was unparalleled in Texasand perhaps in U.S. history. Then the world came crashing down. Further. The number of bank failures averaged only near 10 per year and the number of S&L failures was not significantly greater. The first and most severe regional recessions started in the mid-1980s in Texas and the neighboring energy-producing states in the Southwest following the collapse of world oil prices. Were the regulators too hard on Texas?

From 1983 to 1992, regulators closed 506 commercial banks, which was approximately one-third of all commercial banks in Texasand 25 percent of the total closed in the United States. DALLAS -- The collapse of the oil and real estate markets in Texas has pushed hundreds of banks and savings and loans to the brink of failure, forcing federal regulators to face the most serious banking crisis since the Great Depression. 5. By taking multimillion dollar deposits at one of their banks, then passing $100,000 around to each of the other banks owned by the holding company, Texas bankers have given their customers huge insured accounts. "There was a big vulnerability in oil, but the vulnerability in real estate is far greater than the vulnerability in oil ever was," said M. Ray Perryman, a Baylor University economist who specializes in the Texas economy. Although savings banks have more in common with S&Ls than commercial banks, because they were insured by the FDIC rather than the FSLIC, data on them is included with that for commercial banks. Against this background, Congress had deregulated the nations savings and loan industry, creating an atmosphere in which every crooked fox in Dallas found a fertile and lucrative henhouse to plunder. The destruction of Texas' banksThirty years ago, Texas was home to more banks than any other state in America. At the rate that Texas office space was leased last year, it could take six or eight years to fill up all the vacancies. They were primarily located in small agricultural towns in the Midwest. Learn More. "It won't if the real estate situation is much worse than expected. Youre reading a free article with opinions that may differ from The Motley Fools Premium Investing Services. Volatility profiles based on trailing-three-year calculations of the standard deviation of service investment returns. How much it will cost to clean up the Texas real estate mess is no more certain than how long it will take. Since the crisis began seven years ago, more than 500 smaller banks have gone bankrupt, and JPMorgan Chase has contributed approximately $8 billion to the Federal Deposit Insurance Corporation to help pay for the resolution of those banks. FDIC officials will not say how many more Texas banks are seeking the same favor. In speaking to a group of private investors and financial executives in Dallas on October 24, 2009, Bill Isaac, chairman of the FDIC from 1981 to 1985, said that in his opinion, the nations financial crisis of the 1980s and early 1990s was far more serious with potentially greater downside consequences than the current crisis. Siedman acknowledges that risk, but says there also is a risk "if you close down institutions that you might not have had to close down. 10. Texas banks went bankrupt because of their direct exposure to oil companies and also because of their exposure to real estate whose value depended largely on the success of the oil business. Edward J. Kane, Changing Incentives Facing Financial-Services Regulators,. endstream endobj startxref 0 Formal recognition of the large losses would be a black mark on the agencys record. The National Commission appointed in 1992 to identify and examine the origins and causes of the S&L debacle concluded that: It is difficult to overstate the importance of accounting abuses in aggravating and obscuring the developing debacle. Returns as of 07/21/2022. %%EOF 10. The government's strategy amounts to gambling that the Texas economy and real estate market will turn around before the banks go broke, warns Paul Zane Pilzer, a Dallas real estate investor. For a couple of years after oil prices started to slip, all that construction kept Texas from falling into a recession. IV. Then the picture changed again. This reversal in rates caused the industrys net worth to rise and by 1985 its estimated negative net worth was only about $25 billion and was expected to improve further, ceteris paribus. If you don't start having a turnaround, you run the risk of a second wave that could bring down businesses and institutions that at this moment appear to be secure.". Try any of our Foolish newsletter services free for 30 days. A former federal regulator said it is "obvious" that bank examiners are not being tough on banks that have a lot of bad loans, but are otherwise sound and well managed. Praeger, 1991; and Martin Mayer, The Greatest Ever Bank Robbery: The Collapse of the Savings and Loan Inustry. No spam, ever. This figure represents the difference between the par value of deposit accounts (the large majority of which were less than the maximum insured $100,000 per account) at insolvent institutions and the market value of the S&Ls assets. Kaufman, ed., R, 8. See Bert Ely, Savings and Loan Crisis in David R. Henderson, ed- Fortune Encyclopedia of Economics, New York: Warner Books, 1993, p. 72. Not surprisingly, the loan went sour. Siedman and Clarke acknowledge that the Office of the Comptroller of the Currency set up Texas for a fall by chartering hundreds of new banks there, though Texas already had more banks than all the other states combined. It won't if the U.S. economy goes into a recession.". With the centralization of authority in the headquarters of the institutions that were built on the carcasses of our leading banks, we lost major power bases as well as the institutional incubators that in the past spawned so many of our citys leaders. The crisis ended in the early 1990s, when interest rates declined, the yield curve turned steeply upward sloping, a series of rolling geographic recessions in various regions of the country came to an end, the aggregate economy slowly expanded, the real estate market bottomed out, and newly adopted legislation increased the cost of poor performance and failure to both the institutions and the regulators. In an attempt to solve the problem, Congress at year-end 1991 enacted the FDIC Improvement Act (FDICIA), which focuses on structured early intervention and resolution (SEIR). Siedman said the practice means "allowing a bank to operate with less than normal capital." At the same time, a number of institutions, particularly those that had only recently converted from mutual ownership (which was the prevailing form of ownership) to stock ownership in order to raise additional capital more easily, became tempted to gamble for resurrection. Because these institutions had little if any market value capital of their own to lose, this was a logical strategy. These changes increased the institutions exposure to interest rate and liquidity risk. For months, Siedman and Comptroller of the Currency Robert E. Clarke have insisted publicly that the problems of the Texas banks are not serious enough to require any extraordinary government action. Banks -- and bank examiners -- ordinarily insist that loans be fully collateralized and that borrowers put up more cash if the value of the collateral declines. Calculated by Time-Weighted Return since 2002. At the same time, the new deposit insurance program effectively increased the liquidity and shortened the maturity of their deposits. Savings and loan institutions are traditional residential mortgage lenders. Pilzer said the FDIC, the FSLIC, the institutions they insure and their borrowers are holding on to billions of dollars worth of vacant property, which is worth perhaps half as much as it was before the market collapsed. Dr. Kaufman is the John Smith Professor of Banking and Finance at Loyola University of Chicago, and is Co-Chair of the Shadow Financial Regulatory Committee. Some 90 percent of the banks had loans and investments of less than $1 million, which adjusted for inflation would be equivalent to only about $10 million currently, and would rank them among the very smallest banks. Of the 10 largest banks in Texas, nine were either forced to merge with larger out-of-state institutions or were declared insolvent. And the regulators and the industry lucked out. In 1986, Dallas was considered a banking powerhouse. 343-382. The FDIC, which takes the lead on cleaning up bad banks, has begun to utilize a controversial practice called "forbearance" to keep from closing down all the Texas banks that are in financial trouble. When a vacuum is created, it is filled by others. Texas banks are suffering from a combination of accidental injuries and self-inflicted wounds, compounded by government malpractice. The negative economic net worth of the industry and the corresponding loss to the FSLIC was generally estimated to be about $100 billion,[4] although some estimates placed it as high as $150 billion. As a result, the country had thousands of independent banks; the number peaked at 30,000 in the early 1920s. Until 10 years ago, an applicant for a bank charter had to prove there was a need for a new bank. 750 North St.Paul St. Keep supporting great journalism by turning off your ad blocker. We are still in the process of recovering after nearly two decades. The relatively low failure rate existed despite a banking structure that favored failures by restricting banks to one or at best only a few offices, thus preventing them from reducing risk through geographical and product diversification.

These losses threatened to bankrupt the FDIC. "No bank is failing because of what's happening now," Perryman said. The major source of both the instability in the U.S. banking system in the 1980s that resulted in the exceptionally large number of bank and S&L failures and the associated large losses was not the private sector but the public or government sector. Brings new meaning to the phrase Sunday Funday. Paul M. Horvitz, The Collapse of the Texas Thrift Industry in George 0. The leniency frequently comes in evaluating the real estate that is collateral for billions of dollars worth of loans, Texas bankers say. The only way the troubled Texas savings and loans can get deposits is to pay the highest interest rates in the country, as much as 10 percent on long-term certificates of deposits. 79-95; National Commission on Financial Institution Reform, Recovery and Enforcement, Origins and Causes of the S&L Debacle: A Blueprint for ReformReport to the President and Congress of the United States, Washington, D.C., July 1993; Martin Lowy, High Rollers: Inside the Savings and Loan Debacle, New York.

"It won't work if oil goes back to $10" a barrel from its current $16, Hahn said. Before First Republic fell, Siedman was predicting losses of about $2 billion in Texas this year; adding the $6 billion First Republic bailout would bring the total to almost half the FDIC's resources. It was overwhelmed by the large number of insolvencies, and its staff was far too small and unprepared to deal with the crisis. This drove down real estate values and left a wide swath of Texas' bank industry on the brink of insolvency. They were also the three largest banking companies in Texas, with combined assets of $63.4 billion. They also used their holding companies to exploit the federal deposit insurance system, obtaining FDIC insurance for accounts running into millions of dollars, instead of the usual $100,000 limit. A brief history and additional references appear in George J. Benston, Robert A. Eisenbeis, Paul M. Horvitz, Edward J. Kane and George G. Kaufman. Horton (DHI) Q3 2022 Earnings Call Transcript, WhyDiscover Financial Stock Fell Sharply on Thursday, Marsh & McLennan (MMC) Q2 2022 Earnings Call Transcript, Cohen & Steers (CNS) Q2 2022 Earnings Call Transcript, KeyCorp (KEY) Q2 2022 Earnings Call Transcript, Cumulative Growth of a $10,000 Investment in Stock Advisor, 2 Nasdaq 100 Stocks to Buy Hand Over Fist and 1 to Avoid Like the Plague, Why GameStop Is Falling on the Day It Splits Its Stock, The CHIPS Act Could Boost These 3 Semiconductor Stocks, Why Cruise Line Stocks Just Got Destroyed, Join Over 1 Million Premium Members And Get More In-Depth Stock Guidance and Research, Copyright, Trademark and Patent Information. Banking has always been a volatile industry in the United States, but until the 1930s not an unusual one. The good aspect effectively prevented a systemwide run from deposits into currency by guaranteeing the par value of most deposits. In Dallas, they've gone from less than 600 a year to 8,600 last year. The beginning of the end occurred in the first quarter of 1986, when the price of oil plummeted from $35 per barrel to $9.75 per barrel in three calamitous months. The Texas savings and loans are in even worse shape; 104 of them are broke but are being kept open by special dispensation from the Federal Savings and Loan Insurance Corp., which doesn't have enough money to pay off depositors. By the end of the 1980s, virtually every major Texas-based bank had either failed or been acquired for pennies on the dollar by out-of-state institutions such as North Carolina's NationsBank (known today as Bank of America) and Michigan's Comerica. 530 0 obj <>/Filter/FlateDecode/ID[<129DF6C060A96349845E14E8F9E6D45E>]/Index[520 22]/Info 519 0 R/Length 72/Prev 1428198/Root 521 0 R/Size 542/Type/XRef/W[1 3 1]>>stream Hoping to avoid direct FDIC intervention at First Republic, federal regulators had been prepared to contribute up to $2 billion to help someone buy the bank, but massive withdrawals by frightened depositors forced the government to take action.