Tuesday, March 10, 2009

Other People’s Money, Part II

Not surprisingly, I’m not the only person thinking about the S&L crisis and its connection to the current situation. Reese Schonfeld, the cofounder of CNN and the Food Network (my personal favorite) has recently written an article entitled: The Banking Scandal: Repeating the Same Mistakes and Expecting Different Results, which you can find here: http://www.huffingtonpost.com/reese-schonfeld/the-banking-scandal-repea_b_132700.html.

When you have the same (essentially) sequence of events happen twice—maybe it’s happened other times as well but I only know about the two occurrences—then I think you have to start looking for a systematic problem, not one due to the actions of a few bad apples. Even though there were more than a few bad apples in the S&L scandal.

Back in 1987 when I started looking at the S&L scandal, one of the lawyers for the owner of one of the S&Ls assured me that none of the losses were intentional by saying: “Why would anybody cause losses to an organization they owned?”

At first that seems to make sense, but when you think about it the logic falls apart. Yes, someone technically “owned” the S&L, but the deposits were all someone else’s money and the deposits were all insured by the government. If my deposit is insured by the government, then I don’t care about the solvency of the financial institution where I deposit it. I know I’m getting my money back. All I care about is how high the interest rate I’m getting is. The government regulators were mostly asleep at the wheel—bank examiners started at a salary of $14,000 per year. This was in the Reagan Years when government regulation was a dirty word anyway, but you don’t get the best of the best for $14,000 per year—not even in 1982.

If I paid $200,000 for a S&L, and I can justify a salary or dividends in excess of that amount, then I don’t care if the institution itself loses money. Even if it’s a lot of money, like $2 billion. I only care that I make more than $200,000 out of the deal. The rest of it isn’t my money. It’s OPM.

So nobody really cared if the S&Ls made money. The depositors were insured; the government wasn’t watching; and the owner only needed to find a way to get his money back. Granted, to get his money back the owner had to make the S&L appear to make money. But, just like now, there was a world of difference between actually making money and appearing to make money.

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