Back to the Days of Tight-Fisted Bankers
It’s only muffled thunder so far, but concerned comment about the nation’s banks is increasing, raising fears of a rerun of the savings and loan crisis.
Prominent experts are quick to say that the banking system is relatively sound, and what they are recommending is tonic for a healthy patient, not medicine for a sick one. But having said that, they express concern.
Federal Reserve Board Chairman Alan Greenspan pointed out in a recent speech that the capital reserves that banks hold as a cushion against losses are at their lowest point in 100 years, even though risks are higher today than in former times. Speaking to the American Bankers Assn. on Oct. 16, Greenspan advised his listeners to beef up their capital to protect their business--and to prevent bank failures from threatening the Federal Deposit Insurance Corp., the agency that guarantees all deposits of $100,000 or less. The FDIC has $14 billion in its insurance fund.
Others were more openly concerned than Greenspan.
In testimony before Congress, Robert Litan of Brookings Institution and R. Dan Brumbaugh Jr. of Stanford University--author of a book on the S&L; collapse--said 28 banks holding $23 billion in loans are insolvent. And they said 200 more banks--with loans totaling almost $1 trillion--are weakly capitalized--meaning that their base capital is below 6% of their loans. Still, Litan said, “only if we had a recession” would the banks have a crisis like the S&Ls.;
A big problem is that rapid growth in real estate loans has led to speculative excesses, testified Alex Sheshunoff, president of Sheshunoff & Co., a Texas-based bank consulting firm. He wasn’t talking about the Southwest, where banks have had problems through most of the 1980s, but of the Northeast, where non-performing loans--those 90 days past due on interest--are rising. Troubled real estate loans are up 95% among Massachusetts banks, said Sheshunoff, and up 82% in Connecticut.
What did he recommend? Regulators should curb lending to real estate, said Sheshunoff, but try to keep a channel open for loans to small business.
What does all that worrying mean to you? Plenty. It means that small to medium-sized companies--most firms below Fortune 500 size--will have a tougher time borrowing money as banks hold back on lending while they build capital. Reducing bank loans by only 2% could take nearly $50 billion out of circulation. Commercial real estate loans will dry up.
It means that the early 1990s will be a time of tight money--not because Fed Chairman Greenspan will keep interest rates high, as stock market analysts are always chattering about, but because the FDIC and its chairman, L. William Seidman, will encourage banks to hold back.
There are many ways for the FDIC to do that. Its examiners can question the soundness of specific loans and command banks to hold reserves against them. It can favor banks that make fewer loans and hold more of their deposits in risk-free U.S. Treasury securities--a policy of encouraging what bankers call a lower loan-to-deposit ratio.
In fact, say experts, that’s just the policy that the FDIC will follow in hopes of achieving a double benefit. Fewer loans would return banks to the more secure structure of former years that Greenspan referred to, while holding more Treasury bonds would help the federal government finance its deficit with less dependence on foreign borrowing. The heyday of go-go loan officers is over, and the comeback of traditional, tight-fisted bankers is upon us.
Nobody in government wants to admit publicly to such a policy because of tight money’s effect on business. Big companies that finance through commercial paper markets may no longer worry about what banks do. But the $2.2 trillion in U.S. bank loans is still the principal source of finance for smaller companies. Restraining that flow of loans could be political dynamite.
But failing to restrain the flow proved in the S&L; debacle to be political and economic poison. When S&Ls; got into trouble in the early 1980s, oddly enough, money rushed to the riskiest institutions. That is, deposits were attracted from conservative S&Ls; in the Midwest to then high-flying lenders in the Southwest. When loans went bad, the sickest institutions could continue raising new deposits simply by paying higher interest--federal insurance made insolvent institutions as risk-free as sound ones.
A bill came due, of course. Depositors didn’t lose money--save in cases where S&L; bonds were mistakenly assumed to carry federal insurance. But taxpayers are losing hundreds of billions, and evidence is mounting of S&L; operators having corrupted the political system by, in effect, bribing members of Congress.
So for the banks, the policy will be different: It will be to reinforce capital now rather than trying to restore it later. Better an ounce of prevention than a pound of cure.
